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Germany
Excelling at Exports February 19, 2007 By Elga Bartsch | London Revising up GDP growth forecasts … This past week, German statisticians bumped up their full-year estimate of 2006 real GDP growth from an initial 2.5% reported in early January to an impressive 2.7%. And we would not be surprised to see further upward revisions in the future, which would bring the non-calendar-adjusted GDP growth rate close to 3% in the end. Adjusting for the fact that last year had two working days less than the year before already puts calendar-adjusted full year growth at 2.9%. In addition, the preliminary release of 4Q GDP growth, at a flash estimate of 0.9%Q, came as a surprise to markets, which had been looking for 0.6%Q. The flash estimate was also considerably above initial indications from the Statistics Office. Back in January, the government’s number-crunchers had indicated that they would ‘guesstimate’ real GDP to have expanded 0.5%Q in the final quarter of 2006. On the back of the stronger momentum recorded in 2006, we have raised our German 2007 forecast from the trend rate of 1.5% to 1.9%. … on the back of strong external demand … … benefiting the ‘world export champion’
Bottom line: Export excellence benefits domestic demand
Turkey
The Advantages of a Weak Dollar February 19, 2007 By Serhan Cevik | London The dollar’s weakness could be an advantage for the Turkish economy. There were so many fundamental reasons — ranging from fiscal imbalances to structural failures in the banking sector — that led to the destructive crisis in 2001, but we should not ignore the role of exchange-rate misalignments at the time that exacerbated pressures on the Turkish economy. Particularly, as the euro lost as much as 27.8% of its value against the dollar in the two years following its introduction at the beginning of 1999, Narrowing growth and interest rate differentials favor the euro against the dollar. The dollar’s weakness was initially a structural development, reflecting the ‘twin deficits’ of the
South Africa
This Week in South Africa February 19, 2007 By Michael Kafe, CFA | South Africa What happened last week? Last week saw the first Monetary Policy Committee (MPC) meeting of the South African Reserve Bank in 2007. As anticipated, the committee left the country’s policy repo rate unchanged at 9%. This was thanks to:
(i) An improvement in its estimated inflation trajectory after the final 50bp rate hike in December and significant downside surprises in food and transport inflation;
(iv) A relatively stable rand; and
Inflation trajectory In line with Morgan Stanley’s expectations, the SARB now expects CPIX to peak at no more than 5.6%Y this year, and to average 4.7%Y in the final quarter of 2008. While we agree with the SARB’s inflation projection for this year, it is important to point out that, just a fortnight ago, we revised our end-2008 forecast to 5.2%Y, following an upward revision in oil price forecasts by our European colleagues (see Morgan Stanley EM Economist, February 5, 2007, page 18). Our quarterly average reading for 4Q08 now comes in at 5.0%Y (it was 4.8% before). As a result of this revision, we now expect the first rate cut to only happen in a year’s time. (We had earlier entertained the possibility of a December 2007 cut.)
Visible trade deficit to widen significantly Quite importantly, the governor felt it fit to mention that the deficit on the trade account of the balance of payments had more than doubled from the third to 4Q06, thanks to an unsustainable increase in oil imports. This is pretty much in line with our forecast of a rise in the seasonally adjusted and annualized visible trade deficit from R24.9 billion in 3Q06 to R48.8 billion in 4Q06 (see South Africa: Oil Imports and One-Off Customs Union Transfers May Push Current Account To New Highs – Will The SARB Act Again? January 26, 2007, and December Trade Data: The Good, the Bad and Their Implications for Policy, February 1, 2007). Although the MPC statement was conspicuously silent about how the SARB would treat the jump in net transfers to the Southern African Customs Union (SACU) member countries that was announced in the October Medium-Term Budget, Morgan Stanley has on a number of occasions warned that, were the SARB to ‘smooth out’ the outflow evenly over the four quarters of the fiscal year, it would lift South Africa's 4Q06 current account deficit to a record R121 billion or 6.7% of GDP.
Revisions to the 4Q06/1Q07 current account deficit Latest government revenue and expenditure statistics show that the actual cumulative fiscal outflow to SACU in 4Q06 was only R4.95 billion or exactly 25% of the original budget estimate of R19.7 billion. In other words, despite the upward revision in SACU payments to R29.2 billion as announced in the Medium-Term Budget last October, actual payments have not risen in commensuration. This can only mean one of two things:
(b) the National Treasury is looking to make a bullet payment of a whopping R14.4 billion (the difference between the revised budgeted number of R29.2 billion and the cumulative fiscal-year-to-December reading of R14.8 billion) in the final quarter of the fiscal year ending March 2007.
Latest comprehensive data from the National Treasury suggest that the latter is indeed the case. This means that we were wrong in presuming that the revised SACU payments would be spread over the remaining two quarters of the fiscal year. It also means we were wrong in presuming that the 4Q06 current account deficit would have risen as high as R121 billion or 6.7% of GDP.
Correcting for the timing of SACU payment flows, based on these latest government finance statistics, would suggest that the 4Q06 current account deficit comes in at about R112 billion or some 6.2% of GDP only. Conversely, the current account deficit for 1Q07 will likely jump from our earlier estimation of R96 billion or 5.2% of GDP to R113 billion or some 6.1% of GDP on a seasonally adjusted and annualized basis. But all this could change again if the government makes any significant revisions in the Fiscal 2008 Budget that will be presented this Wednesday, February 21, 2007.
Events/data releases for the week This week sees the release of important consumer and producer inflation data, as well as the Fiscal 2008 Budget.
For consumer inflation, we expect CPIX to rise from 5.0%Y to 5.3%Y, thanks to an anticipated increase in food prices for two reasons. First, food prices are naturally volatile, and after three consecutive months of downside surprises, it is only reasonable to expect some form of correction before the trend resumes. Second, our food price model allows for a 6-9-month pass-through lag from local 6M wheat futures prices (which are themselves influenced by currency movements) and the implied dollar price of diesel into local food prices; this means that the impact of the June/July 2006 currency blow-out that drove up wheat futures prices may have combined with a contemporaneous spike in oil prices to push January 2007 food prices higher. We also expect the CPIX inflation print to be buoyed by a 9c/l increase in petrol prices, as well as positive increases in other surveyed items like rent, communications and medical expenses.
We look for a 9.6%Y PPI print in January: Although we continue to expect a deceleration in agricultural food inflation going forward, technical base effects from a sharp 2.9% drop in January 2006 prices likely lifted the January 2007 y/y food inflation figure, despite a slower m/m increase. Furthermore, our PPI food price models allow for a 1-3-month lag from wheat futures prices to domestic food prices. And although the 6M wheat futures price index has traded broadly sideways since mid-December, nearer-term futures prices have nevertheless been rising, and this could have had some impact on domestic food prices as early as January 2007 – even if muted. Manufactured food prices are now a month or so away from peaking. Finally, with regards to fuel prices, we expect the 7c/l drop in December petrol prices to combine with a further 17c/l drop in January diesel prices to provide some relief.
The most important event this week will be the 2007/8 budget, which we summarize below:
Fiscal health: As we have said before (see December Trade Data: The Good, the Bad and Their Implications for Policy),
Social security tax: While it may be too early to get full details on the government’s intentions to introduce a social security tax that was mentioned by the president in his state-of-the-nation address, we could nevertheless see further tax concessions to the pension fund industry, in a bid to encourage personal savings.
Personal income taxes are likely to be adjusted to allow for fiscal drag, but no significant tax cuts are expected, as this would be at cross-purposes with the monetary authorities’ attempts to cool off consumption spend. Corporate taxes are also unlikely to be lowered, as this would only widen the gap between income and corporate tax rates further. However, we expect further concessions to be granted to small business.
Tax on synthetic fuels: It is now some six months since the energy task force submitted its recommendations on the government's proposal to impose a progressive windfall tax on synthetic fuel manufacturers (mainly Sasol). We expect some action here.
On the expenditure front, recent indication by the Public Enterprises minister that
Government funding: Despite possible marginal increases to the spending budget, commensurate upside surprises in fiscal revenues mean that there is unlikely to be a major deviation from the gross debt issuance numbers that were published last October. If anything, we are likely to see a small nuance in the domestic-to-foreign debt ratio, with a slight bias to issue more foreign debt and pass on proceeds to the SARB as part of the government’s contribution to the SARB’s reserve accumulation exercise. This is not a bad idea, in our view, given the state of the country’s widening external funding gap. Naturally, any consequential reduction in domestic bond issuance should be positive for the local bond market.
Exchange controls: With regards to exchange control relaxation, we do not expect any radical moves here, given the currency’s recent blow-out and continued vulnerability in the face of a yawning current account gap. However, the authorities remain committed to gradualism in the removal of exchange controls, and may allow for a token increase in foreign exchange limits for natural persons.
Macroeconomic forecasts: With respects to the National Treasury’s macro outlook, we expect a small downward revision in its 2007 CPIX forecast and an upward adjustment to the 2008 number. We also look for its 2007/8 current account forecasts to be revised slightly higher.
Indonesia
Raising Growth Forecasts on Domestic Demand Story February 19, 2007 By Chetan Ahya and Deyi Tan | Mumbai, Singapore 4Q06 GDP largely in line with expectations Just released GDP data show that Private consumption and fixed investment surprised on the upside relative to our expectations. Private spending rose 3.8% YoY, picking up markedly from the 3.0% YoY rate in 3Q06. Fixed capital spending rose 8.2% YoY (versus 1.3% YoY in 3Q06) on the back of strong capital imports in 4Q06, as well as the low base effects in the year-earlier period. Public consumption rose 2.2% YoY (versus 1.7% YoY), a marked deceleration from the double-digit growth in 1H06. External demand, by contrast, grew slightly slower than expected at 6.1% YoY (versus 8.2% YoY in 3Q06). Import growth was relatively unchanged at about 9.7% YoY, reflecting the healthy momentum in domestic demand, which rose 6.0% YoY (versus 1.9% YoY in 3Q06). Raising our 2007 GDP forecasts First, from a near-term cyclical perspective, the lagged impact of monetary loosening will likely flow through further. The central bank has cut the benchmark interest rate by 350bp, from 12.75% to the current 9.25%. Commercial banks have been less aggressive in following suit on lending rates. However, the effect of monetary loosening is still trickling down to demand. The latest credit growth number is showing a nascent pick-up after more than a year of deceleration. We believe that this will gather pace as rate cuts spur private consumption and capex. However, we highlight that the ability of the central bank to carry on with this benign monetary loosening is contingent on the sustainability of global risk appetite. Improving macro stability and strong capital flows into Indonesian markets are helping to bring about a certain degree of stability in the rupiah. Monetary policy in In the near term, the impact of floods on inflation could also potentially disrupt the successive cuts in BI rates so far. We expect February inflation to reach the neighbourhood of 7% from 6.3% in January, based on inflation patterns during the 2002 floods. Central bank officials have commented on the possibility of a pause in loosening in light of the floods. While the February floods could lead to such a pause, this would not likely stop the central bank from pursuing two further 25bp cuts by year-end, in our view. Second, from a long-term structural perspective, reforms at the institutional level and on the investment front since the new administration took charge will likely translate into greater capex spending by businesses, especially by the private sector. In the wake of the November infrastructure summit, we believe that infrastructure investment in Having said that, we believe that there could be some noise in the 1Q07 data as the economy gets affected by the floods in DKI Jakarta. The floods have affected 50-75% of the In view of this continued strength, we are taking up our 2007 and 2008 GDP growth forecasts from 5.5% and 6.0%, respectively, to 6.2% and 6.3%. We acknowledge the contribution of Tanvee Gupta to this report.
United States
Review and Preview February 19, 2007 By Ted Wieseman and David Greenlaw | New York, New York Treasuries posted strong 5-year-led gains over the past week, as investors had a strangely euphoric reaction to testimony from Fed Chairman Bernanke that we found unsurprising and very much in line with the previously well laid out Fed outlook. This was the market’s third straight winning week after the relentless sell-off from the beginning of December until near the end of January, and yields ended the week at more than five-week lows, having now retraced roughly 20bp of the nearly 50bp peak-to-trough sell-off from December 1 to January 29. For some reason, the market took Chairman Bernanke’s reiteration of the Fed’s baseline outlook — moderate near-term growth as the housing recession continues followed by a reacceleration towards trend in the second half and into 2008 as housing stabilizes, with inflation expected to very gradually moderate but with risks to the upside — as dovish and moved to price in a good bit more Fed rate cutting in the futures markets, particularly on a longer-term view, but to a lesser extent in the short-term as well. We think it’s very unlikely that this was a reaction the Chairman was trying to elicit. But the Fed’s forecasts for 2007 — moderate growth but little or no improvement in inflation — that strongly suggested that no rate cuts are considered likely this year were ignored. And even his quite explicit warning in response to criticism by Representative Frank of the Fed’s tightening bias that more rate hikes are possible if inflation does not moderate as expected elicited only a marginal, temporarily negative market reaction. So, it’s not clear what the Chairman could have done to steer a market that seems to have been determined to put a dovish spin on a presentation that was, in our view, neither notably dovish nor in any way surprising relative to previous Fed speeches or the repeated message from recent official FOMC statements. Bernanke was the key focus of the week, but the economic data calendar was also very heavy and overall market-supportive. Downside in trade, retail sales and housing starts led us to cut our 4Q06 and 1Q07 GDP forecasts by about a half point each to +2.3% and +3.4%, respectively. Ahead of the CPI report that will be the main focus in the coming week, inflation readings were not market-friendly, with upside in both core PPI excluding motor vehicles and consumer goods import prices. Benchmark yields fell 8-10bp the past week to their lowest levels since January 10. The 2-year yield fell 8bp to 4.83%, the 3-year 9bp to 4.72%, the 5-year 10bp to 4.68%, the 10-year 9bp to 4.69%, and the 30-year 8bp to 4.79%. Futures markets went from pricing a near certainty of an on-hold policy through mid-year and a toss up between an eventual bottom in the funds target in 2008 of 4.75% or 5% to pricing in a small risk of a near-term cut, a move to 5% by year-end, to 4.75% by mid-2008, and a slight risk of a further move to 4.50% in late 2008/early 2009. In the shorter-term, the July fed funds contract gained 2.5bp to 5.215% and the August contract 4.5bp to 5.185%, putting the odds of a rate cut by the June FOMC meeting at about 15% and by the August meeting at about 33%. If not that soon, a rate cut by year-end was fully priced into eurodollar futures, with the Sep 07 contract gaining 7bp to 5.195% and the Dec 07 contract 10.5bp to 5.045%. The biggest gains in the eurodollar market were posted by the Mar 08 to June 09 contracts, which gained 12.5-13bp. At 4.875%, the June 08 contract is now fully pricing in a move in the funds target to 4.75% by the middle of next year, while the low rate Dec 08 and Mar 09 contracts at 4.835% are starting to price in a small risk of a further subsequent move to 4.50%. With the significant rally in the nominal market and softness in energy prices through much of the week before a Friday rebound, TIPS underperformed, with the benchmark 5-year inflation breakeven falling 5bp to 2.28% and the 10-year 3bp to 2.34%, four-week lows for each. With the bigger move in the former than the latter, however, the 5-year/5-year forward breakeven the Fed focuses on was unchanged, remaining near 2.4%. While Fed Chairman Bernanke’s testimony was the main market driver in the past week, economic data were also supportive. Three releases bearing directly or indirectly on GDP growth — trade, retail sales and housing starts — led us to trim our 4Q06 and 1Q07 estimates by about a half-point each. The trade deficit widened more than expected in December to US$61.2 billion from the 16-month low of US$58.1 billion in November, with exports rising 0.6% and imports gaining a larger-than-anticipated 2.1%. BEA assumed a smaller widening in the trade gap in December in preparing the advance 4Q GDP estimate, pointing to about a 0.2pp additional downward adjustment to 4Q growth. The worse-than-expected results also provided a weaker starting point for 1Q, leading us to cut our estimate of the 1Q GDP contribution from net exports a couple tenths from being a slight add to neutral. Retail sales were unchanged in January, restrained by a drop in auto dealers’ receipts (-1.3%) and a price-related decline at gas stations (-0.7%). Excluding autos and gas, sales rose a solid 0.5%. In line with the upside in chain store sales results, the general merchandise (+1.3%) and clothing store (+1.0%) categories posted strong gains, helped by the arrival of colder weather and heavy gift certificate redemptions. This upside was partly offset, however, by a correction at electronics and appliance stores (-1.2%) after extremely strong gains over the prior two months and some softness in restaurants (-0.7%), which also had seen an unusually sharp prior advance. The key retail control component rose 0.2% in January, slightly less we expected, and November was revised down to +0.5% from +0.8%. Based on these results, we expect 4Q consumption to be revised down to +4.1% from +4.4%, and we see 1Q also running at +4.1%, down from our prior +4.3% estimate. Housing starts plunged 14.3% in January to a 1.408 million unit annual rate, a new cycle low that more than reversed an 11.2% cumulative rise in November and December. That apparent upside late last year seems to have mostly been a result of unusually warm weather, so renewed downside had been expected with the late arrival of winter, but all of it apparently coming so quickly in one month was a surprise. Based on this much weaker-than-expected start to first quarter homebuilding, we cut our forecast for 1Q residential investment from -16% to -19%. On the positive side, we think that a 1.4 million unit level for starts should prove to be close to the cycle trough, being a level at which significant progress should be able to be made in getting inventories of unsold homes under control over the first half of the year. So, weaker homebuilding in 1Q should lead to less of a drag in 2Q and 3Q than we previously estimated and an earlier end to the housing recession. Combining the negatives from trade, retail sales and homebuilding, we now expect 4Q GDP growth to be revised down to +2.3% from +3.5%, compared with our +2.7% estimate coming into the week, and we see 1Q growth tracking at +3.4%, down from our prior +3.9% forecast. Ahead of the more important CPI report in the coming week, underlying inflation data released the past week were not good. The producer price index fell 0.6% in January for a 0.2% year/year rise, as the 4.6% plunge in energy prices more than offset continued upside in food (+1.1%). The core rose 0.2% for a 1.8% year/year rise, restrained by a 1.4% drop in the volatile and, in our view, unreliable light trucks category. We instead focus on the core excluding motor vehicles, which rose an elevated 0.4% in January, reflecting upside in some consumer goods, including clothes, tobacco and drugs, and widespread upside in capital goods outside of light trucks. Meanwhile, import prices excluding ‘fuels’ gained 0.3% in January for a 2.8% year/year advance, up sharply from +0.9% a year ago. In this report, we focus most closely on trends in consumer goods import prices, which tend to lead changes in core consumer goods prices in the CPI by six months or so. This component gained 0.3% in January for a 1.5% year/year gain. This was the largest annual rise in imported consumer goods prices in a decade and up sharply from a recent low of -0.3% year/year in April 2006. The disinflationary impetus from Chinese exports on this grouping seems to be over for now. After the flood of data over the past week, the economic calendar is very quiet in the upcoming holiday-shortened week, with focus on the CPI report Wednesday. The Fed calendar is more active, with the minutes from the January 30-31 FOMC meeting released Wednesday and a number of speeches from Fed officials scheduled. These minutes are less important than normal since Chairman Bernanke’s job in his testimony the past week was essentially to summarize the views of FOMC members discussed at that meeting. Therefore, it’s quite unlikely that anything at all surprising will emerge from the minutes. On the supply front, the Treasury will auction an US$18 billion 2-year Wednesday and US$13 billion 5-year Thursday. We had expected to see reductions in the 2-year and 5-year sizes in April during the peak of tax season receipts and were quite surprised at the US$2 billion cut in the 2-year size coming so early. The first quarter — and February in particular — is seasonally the heaviest borrowing period of the year. So, the debt managers must be very optimistic about the upcoming tax season to have already this quarter cut the 2-year size by US$2 billion, the 3-year year by US$3 billion (and suggested complete elimination after May is planned), the 5-year by US$1 billion, and the 20-year TIPS by US$2 billion. Admittedly, it’s hard to fault the Treasury for apparently becoming increasingly optimistic about the budget outlook after the 13% surge in tax receipts recorded in January that included a 19% year/year spike in individual non-withheld taxes. If we get results anything like that for the key April/May non-withheld tax season, our US$210 billion FY2007 budget deficit forecast will be significantly too high. Other than the weekly claims report, which for initial claims will cover the survey week for the February employment report and will follow a very soft report in the latest week that suggested the weather might significantly hit February payrolls, the only notable data releases due out in the coming week are CPI and leading indicators, both on Wednesday: * We forecast a flat headline consumer price index in January and a 0.2% gain ex-food and energy. A sharp pullback in gasoline prices should help restrain the headline CPI this month. Meanwhile, the core CPI is expected to be close to its underlying trend, with an overdue turnaround in motor vehicle prices and another jump in the education category partially offset by further softness in medical care and another decline in the communications sector. If our 0.2% estimate for the core is on the mark, the year/year change should hold at +2.6%. It’s worth noting that some analysts have highlighted a possible upside seasonal bias in the January core CPI. For example, of the 12 instances in which the core CPI printed 0.3% or higher between 2000 and 2005, three occurred in the month of January. However, we believe that any such seasonal bias is relatively modest and that identifiable special factors — such as hikes in cigarette prices or hotel rates — were largely responsible for the tendency for early-year core CPI readings to be somewhat elevated. In fact, the annual update of the seasonal adjustment factors that was released on Thursday pushed the January 2006 reading for the core CPI down a tenth to +0.1%. Finally, note that this report will be the first which includes publication of the index levels to three decimal places. This will enhance the precision of the calculation of both the rounded and unrounded monthly change. * The index of leading economic indicators should rise 0.3% in January, its second consecutive monthly advance, with positive contributions from money supply, consumer confidence and jobless claims more than offsetting the downside influence tied to slippage in the manufacturing workweek, supplier deliveries and building permits. |