11 May 2018
Hong Kong: Upgrading GDP growth for 2018

The extremely strong growth of the Hong Kong economy in 1Q18 surprised us. The growth mainly came from consumption created by the wealth effect from rising property prices. As we expect home prices to rise another 5% to 10% in the second half, consumption will continue to be strong and so will GDP growth. We are revising upward our GDP forecast for 2018

Surprisingly strong GDP driven by consumption

Hong Kong GDP grew 4.7% year-on-year in 1Q18, which is strong but consumption is even stronger at 8.6%YoY. We underestimated growth at 3.4%YoY in 1Q, the same as consensus.

Consumption growth could be due to the wealth effect of rising home prices, which have increased more than 20% for most housing units in 12 months. Though other components also grew at a decent rate, we argue that those were mainly due to the base effect from 1Q17.

Home prices will continue to rise albeit at a slower pace in 2H18

Home prices are not likely to stop rising unless there is a big negative unexpected event in the market. Rising interest rates from more Federal Reserve rate hikes would certainly increase the burden of mortgage borrowers, so home prices would rise at a slower pace. But we do not expect a fall in property prices. With new flats becoming smaller, property developers are able to keep new homes affordable to young people with wealthy parents.

In addition, rising home price expectations would also induce existing home owners to refinance their mortgages, even at high interest rates, to invest in an additional property, hoping for some capital gains in the longer term. In other words, the wealth effect would continue to exist for a few more quarters.

Uncertainties mount from trade tensions

On the other hand, we believe that the escalating trade tensions could disrupt Hong Kong's re-export businesses. Those activities would be mainly shipping, port, logistics and trading businesses. 

We revise Hong Kong GDP upward to 3.8% in 2018

We maintain our GDP forecasts for the remaining months of 2018, as good growth from consumption will be offset by trade-related service activities. But the strong growth in the first quarter is sufficient for us to revise our GDP forecast for 2018 to 3.8% from 3.4%.

Bank of England stays on hold, but have markets overreacted?

As the Bank of England points to a possible rebound in economic growth and further wage rises, we think markets may have been too quick to write off a near-term rate hike

In light of the dreadful first quarter growth reading, the Bank of England has opted to keep rates on hold this month. Unsurprisingly, two of the more hawkish committee members have again gone against the pack and voted for an immediate rate rise. But markets have interpreted the overall tone of the meeting as more dovish than anticipated – money markets have priced out a 2018 rate hike.

Reading through the statement, we suspect this is a bit of an overreaction. The Bank is keen to emphasise that it thinks the weaker growth will prove to be temporary – and interestingly, that the initial estimate of 1Q GDP has been wildly underestimated. The latest forecasts assume an upward revision from 0.1% to 0.3% QoQ.

It also remains upbeat on the outlook for wage growth. Although it has nudged down its forecast to 2.75% for this year, it appears satisfied that the tight jobs market is translating into higher pay. Remember that Bank Agents have been highlighting that 2018 could be the best year for wage settlements since the crisis.

Importantly, the Bank still feels that further “ongoing” tightening would be “appropriate”, and all of this makes us think that policymakers still have a preference to hike in August if the data allows them to.

That’s not to say there aren’t risks – the biggest of which lies in the consumer sector. By some measures, the first quarter was the worst three-month period for retailers since the crisis. At the same time, consumer credit growth appears to have collapsed in recent months with surveys indicating that banks have significantly tightened lending standards. It’s unclear exactly how this will play out, but this could prove to be bad news for near-term growth. We suspect that this will have been a key reason why policymakers opted to keep rates unchanged today.

Then there’s Brexit. If the lead-up to the December and March EU summits are any guide, the months ahead of the October leader’s meeting could see talks become increasingly noisy. Throw in the fact that core inflation is set to return to target within the next three to four months, and it could become increasingly complicated for the Bank to tighten policy as we move through the year.

Malaysia: Mahathir returns, uncertainty lingers

The lingering political and economic uncertainty ahead leads us to revise our end-2018 USD/MYR forecast to 4.05 from 3.84 previously

The best of MYR appreciation may be over

The markets were counting on the return of the former government of Najib Razak for continued economic and political stability. So, an initial negative market reaction to the surprising election results seems probable, though that will not be until Monday, 14 May when the market opens after the election holiday. But that’s not all.

The lingering political and economic risks as we outline below will weigh on investor confidence and performance of local markets, especially the Malaysian ringgit (MYR) for some time, probably through the end of this year. The MYR has lost 2.2% of its value against the US dollar since early April. Besides the increase in political noise since the announcement of elections in early April, the return of the USD’s strength was also responsible as reflected in across-the-board weakness in Asian currencies since. We now see USD/MYR breaching the 4.00 level within the next three months and ending the year above that level. Accordingly, our end-2018 USD/MYR forecast is revised to 4.05 from 3.84 earlier (spot 3.95, consensus 3.81, market forward 4.00).

Swedish krona: A forecast revision

We expect the battered Swedish krona to remain under pressure as global trade tensions, domestic politics and low summer liquidity weigh on the currency. We thus revise up our EUR/SEK forecast and expect it to reach the 11.00 level over the next three months 

Trade war risk premium to rise again

We see further upside risks to EUR/SEK and revise our previous EUR/SEK forecast higher. We look for EUR/SEK to reach the 11.00 level in the next three months and stay there for the remainder of the year.

As per USD: Curb Your Enthusiasm, we expect the theme of protectionism to return in June following the recent calm after the US administration recorded some quick wins, with trade negotiations with Mexico, Canada and South Korea being a good example. As Chris Turner points out, the focus will now turn to China and the EU, as both are preparing retaliatory tariffs should the US go through and implement its threats.

On the Chinese side, it will be late May/early June when President Trump decides which of the proposed tariffs on China will stick. We doubt Beijing can offer enough in early May to significantly water down these tariffs. Instead, we look for a residual of those US tariffs to be implemented in June and the Chinese to reciprocate. These concerns about a global trade war should be negative for the krona.

As per SEK: Swimming naked?, we see SEK as one of the G10 currencies most vulnerable to escalating trade tensions due to the openness of its economy (one of the highest in the G10 FX space) and its high beta to global growth. This is depicted in Figure 1 which shows a material rise in the SEK risk premium (against EUR), with the trade war risk premium now being at around 4%.  

While extreme, we don’t rule out a further rise in the risk premium given the SEK’s high vulnerability and its cheap funding costs (SEK being the second cheapest G10 currency to short). SEK vulnerability to the global trade tensions was one of the main reasons why we turned bearish on the currency earlier in the year and why we now revise our EUR/SEK forecast even higher.

SNB rallies against “Vollgeld initiative”

The Swiss will vote on the “Vollgeld initiative” next month but according to polls, public opinion is still wavering and the central bank President continues to insist on the futility and dangerous nature of the initiative

On 10 June, Swiss citizens will be asked to give their opinion on an initiative which may reform the monetary system. 

Those who promote it want to withdraw bank's ability to create money by giving the Swiss National Bank (SNB) the sole responsibility to create both bank notes and electronic money. The complexity of the topic makes it hard for supporters and opponents to explain the arguments to the general public. In this context, the SNB which, like the Federal Council and Parliament, is strongly against the initiative, is putting efforts to share clear arguments about the possible impact of a “yes” vote.

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In case you missed it: Over-reaction and under-performance

The Bank of England doesn’t move, but did markets over-react? We tell you why we’ve changed our Malaysian ringgit and Swedish krona forecast. And don’t get carried away by the Eurozone’s recent strength; our new report asks whether it can ever escape its productivity rut.

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