Key events in developed markets next week

We are getting closer to the Federal Reserve’s February Federal Open Market Committee (FOMC) meeting, and at the moment the market is split between whether the central bank opts for a 25bp or a 50bp rate hike. After 425bp of rate hikes so far there is a strong chance that it chooses to “step down” to the more traditional 25bp increments given most of the policy tightening work is already done and there are broadening signs that the economy is responding to it. However, inflation remains well above the 2% target and the labour market remains tight with the unemployment rate back to a cycle low of 3.5%. If it does choose to go for a 25bp move, we would expect it to strongly state that this is not the end of the rate hike cycle and that a further 25bp in March is on the cards. This would leave the ceiling of the Fed funds target range at 5%, which we think will mark the peak.

Next week’s data flow will have an important influence on the decision. The calendar includes retail sales, industrial production, housing transactions and producer price inflation. The activity numbers are likely to be soft with retail sales dragged down by a big fall in auto sales in December, while squeezed household incomes and bad weather may also help to dampen spending. Industrial production is also likely to have fallen given the weakness seen in key surveys such as the ISM manufacturing report, whose production component fell into contraction (sub-50) territory for the first time since May 2020. Some offset should come from the utilities sub-component given much colder weather, but lower oil prices may have weighed on mineral extraction.

Inevitably, the housing market data will be weak given that mortgage rates have more than doubled over the past 12 months, making a property purchase even less affordable. Given the swing in the market from excess demand towards excess supply, falling transactions will also be accompanied by lower home prices.

Market pricing is split between a 25bp and 50p hike at the Bank of England’s February meeting, though is biased towards the latter. The centre of gravity on the committee shifted noticeably in favour a ‘smaller’ 50bp hike back in December, and the minutes of that meeting contained vague hints that a further slowdown could be on the cards. Next week’s data is key, and here’s what we’ll be looking at:

• Jobs (Tues): The BoE will look at this data through the lens of a) whether labour shortages are easing and b) whether wage pressures are still just as persistent as ever. So far the jobs market has shown few signs of deterioration, other than a gradual reduction in the number of unfilled vacancies. We’ll be watching for any hints of redundancies increasing, as firms battle higher energy costs and interest rates, though we suspect these will remain low for the time being. Meanwhile regular pay growth has been running at 7-8% on an annualised basis, and that’s consistent with the recent readings coming from the BoE’s own Decision Maker survey. For now, this is the strongest argument in favour of another 50bp hike.
• Inflation (Weds): Headline CPI has peaked but is likely to remain in double digits through early 2023. But the Bank’s favoured measure of ‘core services’ inflation, perhaps the cleanest gauge of domestically-driven price pressures, has edged higher in recent months and this will be key. Signs that this is reaching a peak would boost the case for a more modest rate hike in February.
• Retail sales (Fri): Until November, retail figures had risen by roughly 4% in value terms through 2022 but fallen by an even greater percentage in volumes, neatly encapsulating the cost of living squeeze that’s dominating the UK outlook this year. While fourth quarter GDP looks like it’ll come in flat, partly thanks to an artificial bounce in activity after the Queen’s funeral Bank Holiday, the first quarter output is likely to show a material decline – thanks in part to weaker retail numbers. We expect a small bounce-back in December, though that’s likely to reflect volatility surrounding Christmas more than anything else. We wrote more about the UK’s growth outlook here.

Norges Bank has signalled it expects its policy rate to peak at 3% early this year, and there’s been little change in the key indicators it looks at since that prediction last December. We expect a 25bp rate hike next week, which would mean that the 3% level is reached. We see little reason not to take Norges Bank at its word and we suspect that will indeed be the peak, though much depends on oil prices and what other central banks end up doing through the spring.