Last week’s decision by Standard & Poor’s to downgrade Chile’s long-term foreign currency rating to A+ from AA- did not come as a surprise to us, as Chile’s sovereign spreads have been trading for several months at levels similar to sovereigns with BBB+ ratings.
Based on our Sovereign Credit Risk Model, we expect Fitch and Moody’s to follow suit in the coming year. But gradual improvements on the fiscal and growth fronts, along with an expectation of broad continuity in economic policy after the 2018 elections, should prevent additional downgrades thereafter.
China’s economy grew by 6.9% in Q2, as exports gained pace and domestic demand remained solid, although the growth of both household consumption and investment eased somewhat in the quarter.
In the coming months, we expect China’s exports to continue to benefit from improving global demand. Domestically, we still expect momentum to ease on tighter monetary policy. However, real estate activity in the country’s smaller cities is surprising on the upside and the tightening of overall macro policy remains modest. Following the stronger than expected GDP growth in Q2 we now expect a more modest slowdown in H2 and have revised up our forecast for whole-year GDP growth in 2017 to 6.8% (from 6.6%).
Despite the recovery continuing to build steam, no clear commitment on the size and duration of QE asset purchases in 2018 is likely at July’s ECB press conference. And Draghi is likely to hint that the ECB has no plans to commit to a QE end-date just yet, a sign that policy normalisation will be gradual and slow.
The ECB may signal that a September announcement is likely by tweaking the current guidance on asset purchases and dropping the commitment to increase the size of asset purchases in the event of adverse shocks – changes to the forward guidance were discussed in the June meeting.
We expect Draghi to refer to the need for “patience” and “prudence” as well as the need for “persistent” monetary policy support in a bid to signal that normalisation will be gradual. We expect him to reiterate recent comments by Benoît Cœuré that talked about the need for the ECB to adjust policy “carefully and flexibly”. We have interpreted these as strong signals that the ECB will announce a further six months of purchases from January at a reduced rate, probably of €40bn a month, rather than a tapering of purchases. This would avoid the ECB being tied to a fixed end-date for QE purchases.
Leaving QE buying open-ended seems the favoured option due to the greater flexibility to tweak the programme further down the road. It would emphasise that normalisation will be a slow process too, which may minimise the risk of an autumn taper tantrum.
Core inflation in the Eurozone rose to 1.1% in June from 0.9% in May. But despite the strong economic momentum, price pressures remain fairly subdued, something that is corroborated by our measure of ‘super core’ inflation and the weakness seen in wage growth. This will prompt the ECB to remain very careful when deciding how to withdraw its monetary stimulus.
Weaker oil exports saw total export growth moderate in June. Oil imports also declined, leading to the trade balance (in real terms) widening to S$5.6bn from S$4.4bn a year ago.
Growth in non-domestic exports was once again in the black after two monthly declines. Moreover, the latest PMI surveys continues to signal relatively strong demand, notably in the electronics sector. However, we do look for growth to moderate later this year as Chinese demand eases, whilst less favourable base effects are also likely to see oil exports weigh on the headline export figures.
The Bank of Canada lifted the overnight rate by 25 basis points in July, citing upbeat economic activity and that the adjustment to lower oil prices looks complete. The overall hawkish tone of the policy statement suggests that additional rate hikes are likely if the economy maintains its current track of solid growth. Going forward, we expect that a fairly upbeat macroeconomic backdrop will allow the Bank of Canada to retain its tightening bias. Real GDP is expected to accelerate from an average of 1.5% in 2016 to 2.6% in 2017 and 2.0% next year, underpinned by rising non-energy and energy activity.