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Weekly 20th January 2017

Highlights of the week 

  • Markets: Developed yields up slightly, the US dollar weakened slightly against major currencies. Spreads were rela-tively stable approaching ECB meeting.
  • United States: Mixed figures.
  • Eurozone: Rise in overall inflation index, core inflation still quite weak. Little change at ECB Governing Council
  • Emerging countries: FX interventions by the CBRT to defend the Turkish lira. Upside surprises on Chinese economic figures. India's CPI growth lower than expected in December.

The week at a glance 

Economic indicators


Rise in the overall inflation index; core inflation is still quite weak. The annual increase in the overall inflation index accelerated sharply to +1.1% in December (vs. +0.6% in November), the fastest pace since September 2013. However, the annual rise in the core index (ex energy and food) was a mere +0.9% (from +0.8% in Novem-ber) and has stayed almost stable for several months. Country by country, the index's annual gain in December was +1.3% in Germany, +0.5% in France, +0.4% in Italy, and +0.7% in Spain.

The current acceleration of inflation is due to the base effects of oil prices. It will continue to the end of Q1, then be followed by a significant reflux. At this stage, there is no sign of an increase in core inflation due to the internal momentum of the European economy. Yet in view of the very low jobless numbers in Germany, the issue of new inflationary pressures coming from wages may well arise in that country by late 2017.

United States

Figures mixed. Industrial output rose more than expected in December (+0.8% vs. consensus at +0.6%) but after a stronger decline than initially announced in November (-0.7% vs. -0.4%). December's building permits were a slight disappointment (1.210M vs. 1.225M expected), while housing starts were higher than expected (1.226M vs. 1.200M expected). Finally, annual growth in the overall inflation index stood at +2.1% in December (after +1.7% in November), its highest level since June 2014, while the core index gained +2.2% (vs. +2.1% in November)

Just like in the eurozone, acceleration in the overall inflation index is tied to fluctuations in the price of oil. Howev-er, core inflation above 2% shows that the US economic cycle is more advanced. In view of the latest numbers on wages (2.9% increase in the average hourly wage in December), a slight acceleration in core inflation due to wages is likely during the next few months.



The Bank of Japan raised economic assessment on three regions (northeastern Japan) out of nine in its quarterly regional economic report. The Bank maintained views on rest of six regions. The government has already revised upward its economic assessment in December for the first time in 21 months. Main driver is rebound in emerging economies and subsequent stabilization of exports and industrial production. On consum-ers’ front, the central bank heralded the omen of wealth effect since domestic equity price elevated 15% in Q4/16. Meanwhile Cabinet Office reported that machinery orders plunged in November by 5.1% m/m, the largest fall in seven months. The contraction followed a 4.1% gain in the previous month. Market participants thought that business investment would steadily gain toward 2017, forecasting a smaller 1.7% setback in November.

Despite encouraging assessment by the government and the central bank, we should be cautious of economic development in coming months. Following stunning remarks by BOJ Governor Kuroda in an interview at the end of last year, the Bank of Japan unequivocally took economic assessment a step further. He declared that the economy was undoubtedly going in an ideal direction and pessimism was completely wiped out. Nevertheless real wage dropped from a year earlier in November for the first time in eleven months as total CPI accelerated on the back of lower yen and higher oil price. Farther acceleration is likely as PPI soared in December by 0.6% m/m, the sharpest gain since April 2011. Moreover the sudden setback in machinery orders suggests that concerns about protectionist trade policies and withdrawal of the Trans-Pacific Partnership by the new US President undermined business confidence. Spring wage negotiation, which starts next week will be tough for labor unions and employ-ees if apprehension lingers.



China’s December Total Social Financing provided a big upside surprise again. China’s December money data came in much better than expected. M2 came in virtually inline at 11.3% (vs. consensus and previously 11.4%) bottoming out from July, whereas total social financing came in much stronger than expected at CNY1,630bn (vs. consensus CNY1.3trn and previously CNY1736.6bn). New yuan loans came in better than expected as well at CNY1,040bn (vs. consensus CNY676.8bn, and previously CNY794.6bn). In terms of trade data, China’s December export growth yoy in CNY terms came in better than expected at 0.6% (vs. consen-sus -0.1% and previously 5.9%), while import yoy growth in CNY terms provided an upside surprise as well at 10.8% (vs. consensus 4.2% and previously 13%).

Among the December trade and money data, there are several highlights: 1. Imports are still strong in copper ore & concentrate at 13% yoy growth in December (vs. 22% in November), coal imports at 52% yoy growth in De-cember (vs. 67% in November), crude oil at 10% yoy growth in December (vs. 18% in November). 2. M2 growth for 2016 as a whole was 11.3%, 1.7% lower than the government’s target of 13%, which was received positively. New yuan loans grew at 13.5% in 2016 (vs. 14.3% in 2015), and TSF grew at 12.8% in 2016 vs. (12.6% in 2015). Within the new yuan loan breakdown, new corporate and government loan growth rebounded to -2.9% yoy in December (vs. -66.9% in November), while new household long-term loans (mainly mortgages) declined due to property tightening, but still accounted for over 40% of total new loans. We continue to believe the Chinese eco-nomic stabilisation is sustainable at least until end of 2017.


India’s December wholesale prices yoy (WPI), were lower than expected at 3.39% (vs. consensus 3.50%, and previously 3.15%). India’s December CPI yoy came in better than expected at 3.41% (vs. consensus 3.51%, and previously 3.63%), hitting a 9-month low.

The weakness in both the CPI and WPI is driven by lower than expected food prices and also partly by the impact of demonetisation which has slowed the inflation momentum. Food inflation within the CPI hit a 16-month low at 2% yoy in December vs. 2.6% yoy in November. We continue to hold our view that the RBI’s inflation outlook has been lagging in that inflation has been behaving much weaker than the RBI expected. Hence we believe the RBI has to remain accommodative longer than the market expected, and ease bigger than the market expected, given the chaos from demonetisation.


Monetary Policy


Little change at the Governing Council. Mario Draghi reiterated that a high degree of monetary easing was required to give rise to inflationary pressures and support an increase in inflation in the medium term. He stressed that there was not yet any convincing bullish trend in core inflation.

As we saw in the minutes of the previous Governing Council, there are two opposing camps within the ECB: the hawks, who feel that the lessening deflationary risk should obligate the ECB to discontinue its QE programme, and the doves, who think that weak growth in core inflation means the QE must be continued. For the time being, the second is firmly in the majority, and we do not predict that core inflation will rise so quickly in the coming months that it will force the ECB to reverse its December decisions.


The CBRT intervened on the foreign exchange market by proposing three auctions for amounts of 500 and two times 300 million dollars. At the first auction, the interest rate for the lira was 8% and increased to 9% for the third auction, an increase of 100 bp. The interest rate on the dollar has remained at 0.75% for the three auctions.

These measures are aimed at encouraging banks to deposit more liras to defend the currency that lost more than 20% against the dollar since the election of Trump. From our point of view, these unconventional measures will not be enough to reassure markets that hope for more conventional rate hikes, notably on the repo and the over-night lending rate. The next CBRT committee will be on Tuesday, January 24th. However, we are expecting a status quo of the CBRT.


Financial markets


Developed yields up slightly. German and US 10-year yields closed out the week at 0.4% and 2.48%. US 10Y breakeven inflation closed in on 2.05%, a level not seen since September 2014 (at the time, a barrel of oil went for about $100). Few changes to sovereign spreads in the eurozone.

We think that long yields should rise a little in the weeks to come, due to the rise in headline inflation (base ef-fects) as well as the fact that the markets will probably re-evaluate the likelihood of a fed funds hike in March.

Foreign exchange

The US dollar weakened slightly against major currencies during the week, given remarks of D. Trump about the USD is “too strong” and uncertainties about his administration. The EUR/USD exchange rate appreci-ated slightly and reach the 1.07 level. The three worst performances for the week were, in order, the Turkish lira (-2.3% against the dollar for the week), the Mexican peso (-1.3%), and the Canadian dollar (-1.8%). Note that the renminbi appreciated by 0.3% against the dollar and that USD/CNY is back at its two-month lows.

We are negative on the Canadian dollar. At the BoC's Governing Council meeting this week, Governor Poloz listed a number of reasons why the new US administration's economic policies could be bad for Canada. Among those points, the CAD's effective exchange rate has climbed as much as the US dollar's since the American elections, which is problematic at a time when core inflation is weak.


Spreads were relatively stable ahead of an ECB meeting expected to deliver no major changes to the monetary policy outlook, after the important news announced in early December.

After a relative slowdown in the previous weeks, the path of corporate bond purchases by the ECB resumed its usual size of around EUR 2bn in the week ended 13th January. This confirms that the ECB remains fully committed to pursuing its QE on corporate bonds, although adapting its path to liquidity levels, volumes of activity and volatility fluctuations. Stable trends in both US and European HY spreads are supported by the fall in default rates expected in the US and by the stable trend at low levels expected for European defaults in 2017. After reaching a peak very soon, in fact, according to our regressions and in line with rating agencies’ projections, US HY default rates should fall from the current level of close to 6% to levels below 4% by the end of 2017. A supportive macro picture sustained by recent positive surprises, together with the first promising signals from the earnings season, keeps the positive stance on credit markets unchanged.



Key upcoming events

Economic indicators

US: GDP expected to slow down in Q4. Eurozone: PMIs should stabilize in January.







Key events




Market snapshot





Letter finalised at 3pm Paris time

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ITHURBIDE Philippe , Global Head of Research
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Weekly 20th January 2017
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