Godzilla vs. deflation - Economics weekly


Godzilla vs. deflation - Economics weekly

Last week we had meetings at three major central banks.

Economic Analysis

08 April 2013

Two of them were pedestrian affairs, with no policy change from the Bank of England or the European Central Bank. But the Bank of Japan took Godzilla-sized steps in its bid to end nearly two decades of deflation. Meanwhile, the US recovery stumbled in March; let’s hope it quickly gets back in its stride.

First hints of a US wobble?

The US recovery is streets ahead of Europe. But it looks like we are seeing the first hints of a wobble. Two business surveys released this week showed big falls in manufacturing and service sector firms' confidence about the future. Job growth also took a sharp dip in March. The economy added just 88,000 new positions during the month, the lowest since June last year.

Suspicion for what's behind these weaker figures inevitably turns to the spending cuts that were signed into law at the start of March (aka the sequester). It is plausible that they could have a big, immediate impact in a sector like defence, but it feels a little early for the effect to have spread right across the economy. A related explanation is the January tax rises may be starting to bite. Either way, hopefully March is just a small blip in the ongoing recovery. All eyes will be on where the US goes from here.

Japan takes bold action to end deflation

In its first meeting chaired by new governor, Haruhiko Kuroda, the Bank of Japan came out all guns blazing in a bold attempt to end nearly two decades of deflation. It announced a dramatic expansion to its asset purchase programme which will double its holdings of long-term government bonds and stocks over the next 2 years. The yield on 10-year bonds dipped below 0.5% after the announcement (down from 0.8% at the end of last year).

The yen also fell sharply, reaching its lowest level against the dollar since mid-2009. This is good news for Japan’s exporters but Mr Kuroda will be wary of accusations of currency manipulation. All in all, it’s an aggressive statement of intent from the new monetary policy chief but it remains to be seen if it will be enough to reach the bank’s target of 2% inflation in 2 years.

Eurozone activity contracts at faster pace

Business activity in the Eurozone contracted further and faster in March, amid another flare up in the single currency area's never-ending crisis. The purchasing managers’ index (PMI) fell from 47.9 in February to 46.5 in March. This measure, which covers both manufacturing and services, has indicated falling output in 18 of the past 19 months.

And problems are wide spread: Germany has almost come to a stand still, while France showed a distinct lack of va-va-voom. Indeed, the French economy registered its steepest downturn in activity for four years. Even so, the European Central Bank decided against any loosening of policy. But with inflation a distant threat and the core economies looking increasingly sluggish a rate cut is probably not far away.

Has the UK dodged a triple-dip recession?

Surveys of UK economic activity provided mixed messages in March. The manufacturing PMI improved to 48.3, but remains at a level consistent with contraction in the sector. There was better news from the services equivalent, which increased to a seven month high of 52.4.

While this reading indicates solid rather than spectacular growth, the recent acceleration in services is reassuring. These data suggest that the UK economy may well have managed to eke out a little growth in Q1, thereby avoiding a triple dip recession. That was good enough to persuade the Monetary Policy Committee that no further stimulus was needed at its April meeting.

UK house prices continue to rise – slowly

UK house prices rose again according to both the Nationwide and Halifax, despite a slowdown in mortgage approvals in February. House prices have now risen for the past 3-6 months and, depending on who you ask, the average price of a house is around £163k. But the housing market remains weak – house prices are still stubbornly high relative to incomes, and mortgage payments are over 30% of average earnings.

UK corporate borrowing was also subdued in February

After posting it’s biggest monthly gain for four years in January, lending to private non-financial corporations fell by £3.7bn in February. This dragged the y/y growth rate down to -2.5%, which is in stark contrast to the strong growth in corporate deposits (+7.8% y/y). Corporate deposits haven’t outpaced lending by this magnitude for almost 20 years.

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