Author: Barclays

Survey data on the health of leading economies kicks off the week, with the final January purchasing managers’ index (PMI) readings from China, the eurozone, the UK and the US.
China’s Caixin and the US IHS Markit PMI data have both indicated that the two economies have managed to keep expanding. With the recent improvement in trade talks, the final data will reveal if growth can be furthered. With regards to the US, the Institute for Supply Management readings will be closely watched after they signalled contraction in manufacturing in recent months.
The PMI data will reinforce whether the UK has experienced a post-election bounce in manufacturing and services activity, as the flash PMI indicated, and if the eurozone continues to show signs of recovery (albeit from a contracting manufacturing base) in the midst of easing global trade tensions.
In the eurozone, the consumer has managed to keep the economy afloat. December retail sales data on the Wednesday will show if consumption strengthened in the run-up to Christmas, after 2.2% year-on-year growth in November.
Ending the week is the January non-farm payrolls data in the US. While the unemployment rate remained at noticeably low levels in December at 3.5% and real earnings remain positive, the non-farm payroll number disappointed in December at 145,000, especially given the revising lower of employment readings in prior months.
January trade data from China is also on Friday. The data will reveal the impact on the country’s export-heavy economy of a recent de-escalation in trade wars with the US and the signing of the “phase-one” deal. December’s trade surplus was revised up $0.5bn to $47.2 bn.

Company news will pick up pace this week, with fourth-quarter earnings being published for more than 800 companies. That said, key macro data and economic news will also remain on investors’ watch list.
In the eurozone, the European Central Bank (ECB) monetary policy meeting, scheduled for 23 January, is the main event in the spotlight. The first rate-setting meeting of 2020, and with new ECB president Christine Lagarde at the helm, is likely to be to the dovish side. Further easing should be off the table for the time being, especially without a significant worsening in the bloc’s macroeconomic backdrop.
The eurozone and UK publish January’s IHS Markit flash purchasing managers’ indices (PMI). The Bank of England will likely have their eyes peeled on the UK flash data before their 30 January meeting for any imminent signs of recovery after the economy has showed signs of stuttering.
In the US, investors will closely monitor January’s IHS Markit flash PMIs for an indication on the health of both the services and manufacturing parts of the economy. After the last readings showed signs of improvement in December, expectations for 2020 are positive with services expected to remain resilient and hopes of further recovery in US manufacturing activity.
While some stabilisation is probable, especially on the back of the US-China phase one trade de-escalation, a sharp acceleration seems unlikely with uncertainty still elevated. In addition, investors will examine December’s new home sales data to assess the health of the housing sector.

Subdued inflation and weak output: is it time for an “insurance” cut?

UK November gross domestic product (GDP) data shows an economy that has weakened but kept afloat despite businesses grappling with uncertainty. Not least the extension of article 50 and the subsequent calling of December’s election.
On a year-on-year basis, GDP growth of 0.6% was the weakest since June 2012 and continues the contraction in output seen in 2019. The weakness was widespread across industrial production and the dominant services sector, which fell 0.3% month on month, the worst since February 2018.
However, the first half of the year could see modest growth, facilitated by some potential tailwinds.

1. The more than likely passing of the withdrawal agreement bill in parliament could support confidence and lower some uncertainty.
2. The March budget may pave the way for some fiscal stimulus.

The weakness and the juxtaposing potential for a recovery provides the members of the monetary policy committee (MPC) with a dilemma before their 30 January meeting.
On the one hand, they could continue to leave rates unchanged in case a recovery surfaces in the first half of 2020, as well as clarity on Brexit, and vote for a rate cut if this does not materialise. However, this would leave the risk of being reactive as opposed to proactive.
On the other hand, the MPC could provide an “insurance” cut to provide support should growth continue to stutter while running the risk of overheating the economy and generating inflationary pressure on the upside. This risk is definitely lowered by December inflation reaching a three-year low at 1.3%.
With two MPC members already dissenting in favour of rate cuts and Governor Mark Carney, Silvana Tenreyro and Jan Vlieghe starting to express concerns about the economy, the latter is looking increasingly more likely than the former.
At the time of writing, the rates market prices in approximately a 62% chance of a rate cut in January, with a 25 basis point cut fully priced in by June.
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The outcome of Thursday’s UK general election will be a key talking point for markets near the end of the week, with a Conservative Party majority largely priced in financial markets.

On the data front, UK October gross domestic product is out on Tuesday. After avoiding a “technical recession” in the three months to September (Q3), but seeing the weakest year-on-year growth rate since 2010, the data will give the first insight into whether activity firmed in the early stages of Q4 or continue to remain vulnerable as a result of entrenched uncertainty. If leading indicators are to be believed, the latter is likely to be the case.

The US Federal Reserve’s (Fed) meeting on Wednesday should indicate whether a “mid-cycle adjustment” has now occurred. The minutes of the Fed’s October meeting appear to suggest that after three rate cuts this year, the rate-setting Federal Open Market Committee believes that the US economy is in a “good shape”. The day after is Christine Lagarde’s first meeting as the European Central Bank president. While further monetary stimulus may be on the cards in 2020, the market is not pricing in a change in the deposit rate.

Wednesday also sees eurozone industrial production data for October published. With market optimism over a “bottoming-out” of weak economic activity, this should indicate whether Europe’s lacklustre manufacturing and industrial production is starting to see a change in fortunes.

Ending the week in the US is November retail sales data. According to web analytics tool Adobe Analytics, US online shoppers spent $7.4bn on 29 November, Black Friday, up by 19.6% from last year. This would likely aid the monthly retail sales reading, after a prior month-on-month reading of 0.3%.

OPEC+’s dilemma

Looking into next year, markets will undoubtedly be focused on whether the Organisation of the Petroleum Exporting Countries and allied producers (known as OPEC+) decide to extend cuts in oil production targets or not.

OPEC makes up a significant share of total production. Total daily production of oil, as of 4th September, was 82.5 million barrels per day (mbpd), with OPEC members producing 31.8mbpd and Russia 10.9mbpd.

OPEC+ lowered output by 1.2 mbpd earlier in 2019, with the agreement due to end in March 2020. Combined with geopolitical instability in Venezuela and Libya, tensions in the Middle East and US sanctions on Iran, the production cuts have reduced the supply of oil and been positive for the price of the commodity.

However, the upward pressure on oil prices has been offset by weakening global demand as the US-China trade dispute hits global growth prospects and non-OPEC supply of the commodity rises.

The US has significantly increased oil production over the past decade, becoming one of the largest producers globally and a net exporter, as opposed to net importer, of oil. Relative to the 82.5mbpd produced globally, the US accounted for 12.4mbpd of this.

Besides the US, supply growth from Brazil and Canada further increased aggregate supply in the non-OPEC+ world, which is now anticipated to be 1.7mbpd in 2020.

The fundamentals for oil suggests an imbalance in the market through 2020. Not only have non-OPEC+ countries (particularly the US) increased supply, but elevated trade tensions are doing little to provide upside support to oil prices.

OPEC+ members face a difficult decision in terms of making production cuts past March or not. While a continuation of the 1.2mbpd cut evidenced in 2019 seems likely, there is a possibility that further production is lowered in an effort to counter the downside pressures oil prices are facing. Such a move could increase the potential for an imbalance.

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As we enter December, markets will welcome any positive prints from the US labour market in the hope that consumers will increase spending over the festive period.

October’s jobs report was stronger than anticipated with payrolls and earnings both increasing, signaling the resilience of the American economy. November’s readings are likely to surprise on the upside with non-farm payrolls expected to rise to 183,000 on the month, wage growth set to remain steady while unemployment should stabilise at 3.6% after a slight uptick in the prior month.

The outlook of the corporate sector is also improving. November’s final services and manufacturing purchasing managers’ index (PMI) is expected to improve following higher flash prints, showing that the worst may now be behind us. In particular, manufacturing is likely to have benefited from the end of the General Motors strike and easing trade tensions.

Meanwhile, business activity in China and the eurozone is more mixed, with November’s PMIs likely to confirm a divergence in manufacturing and services trends. In both regions, manufacturing rebounded in October, due to stronger domestic and foreign demand, while services activity shows signs of contagion as business confidence remains depressed. In the eurozone, in particular, PMIs continue to point to more lacklustre growth.

Finally, the UK manufacturing PMI is set to contract further next week, following the decline in the November flash readings amid concerns around Brexit uncertainty and a cooling jobs market. With a general election drawing near, this is unlikely to be reversed until more clarity emerges on the political front.

The long-due shift from monetary to fiscal policy

Last week, the new European Central Bank (ECB) president Christine Lagarde delivered her first policy speech. In line with her predecessor, she stressed the need for greater fiscal stimulus in the eurozone, and increased cooperation, from the bloc’s governments.

The call for a step-up in fiscal spending has been a recurring theme recently, as easing monetary policy seems to have lost its effectiveness and concerns about the ECB running out of ammunition have started to emerge.

The chart illustrates how GDP growth has remained lacklustre of late even while interest rates have been firmly negative for over a decade, and more so this year, highlighting the reduced room for manoeuvre the ECB has.

While Ms Lagarde pledged that the central bank will continue to support the economy, she added that monetary policy “cannot and should not be the only game in town”, especially as public spending remains below its pre-crisis levels. Despite resistance from some quarters (mainly from Germany), the ECB president urged that extra spending focus on initiatives that are “more digital and greener” and stressed the importance of integration to boost productivity.

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