FED and ECB signal potential rate cuts this year on cooling inflation while China focuses on targeted measures to address structural issues
US
Despite strong labor markets, a rise in US jobless rate to a 2-year high is paving the way for mid-year rate cuts. In February, nonfarm payrolls expanded by 275,000, beating expectations of +198,000. However, the unemployment rate rose to a 2-year high of 3.9% and increases in average hourly earnings also eased to 4.3% YoY. The Services PMI slipped to 52.6. In addition, the Senate has approved a USD 467bn spending package, thus avoiding a government shutdown on 8 March, though the next deadline for approving government funding will come as soon as 22 March.
Fed Chair Powell has said that policy rates will fall this year if clear signs emerge that inflation is back to the 2% target for long term manners. Core CPI and core PCE are likely to fall below 3% in Q3, meaning that real interest rates will be close to the 2.5% seen in 2008, while data indicate that labor markets are weakening. Thus, with indicators softening and price rises easing, the Fed may begin considering mid-year cuts to normalize policy interest rates. In addition, the Super Tuesday primary votes from 15 states indicate that November’s 2024 presidential election will almost certainly involve a run-off between Joe Biden and Donald Trump, and this will add to uncertainty through 2H24.
Eurozone
The ECB has trimmed its forecast for 2024 inflation and growth, signaling possible rate cuts this year. In January, the Producer Price Index fell more than the market expectation at -8.1% YoY and -0.9% MoM. Also, retail sales contracted deeper at -1% YoY, compared to -0.5% a month earlier. However, good news was found in February’s Services PMI, which rose to 50.2, its highest since July 2023, and this was enough to lift the Composite PMI to a 1-year high of 49.2.
The European Central Bank (ECB) has voted to leave the policy rate at 4%, and the bank has also cut its forecast for 2024 GDP growth and inflation from respectively 0.8% to 0.6% and 2.7% to 2.3%. Although the ECB has not indicated when it feels rate cuts should be made, the economy is stagnating, and inflation is falling and is approaching the 2% target. We therefore expect that given this environment, the ECB will begin cutting policy rates in the middle of the year. Nevertheless, the Eurozone economy likely passed through the worst in 4Q23, and a number of factors point to a slow recovery in 2024, these including: (i) the easing of the energy crisis; (ii) cooling inflationary pressures and the positive impacts of this on consumption; (iii) the easing of supply chain disruptions; and (iv) effects of last year’s low base.
China
China set 2024 economic targets close to 2023 amid deep structural problems, while US attempts to further restrict China’s access to hi-tech products. China recently has set 2024 targets for GDP growth of around 5%, matching 2023’s, and for other key indicators such as inflation and budget deficits at close to 2023’s levels (see table). Plans to tackle structural issues include job creation, FDI attraction, the birthrate and promoting the “new quality productive forces” such as EVs, hydrogen power, space flight, and quantum technology that will drive the future economy. However, tech export restrictions by the US and its allies could be a significant hindrance to growth. Recently, the US has tried to prevent the Dutch ASML from servicing Chinese chip equipment, called for Japan to stop exports of chip production materials, and is negotiating with Germany and South Korea to raise the pressure on China.
China’s latest economic targets indicate a move away from short-term large-scale fiscal measures and towards an increased focus on targeted structural reform that will pay off over the mid to long terms. This is especially evident in the emphasis on “new quality productive forces” and efforts to reform the regulatory and legal environment. However, with chronic structural problems, the ongoing tech war, and mild fiscal stimulus, we expect growth in 2024 to fall below target to around 4.6%, down from 5.2% in 2023.
Improving sentiment is supporting consumption through the start of the year. With inflation cooling, the MPC may begin to cut rates in mid-year.
Consumer Confidence maintained its upward trajectory through February, and going forward, the tourism sector will continue to underpin rising consumption. In February, the Consumer Confidence Index rose from 62.9 in January to 63.8, its 7th month of increases and its highest in 4 years. Sentiment has been boosted by the stimulus effects of the government’s Easy-E-Receipt scheme, official help with the cost of living that has cut energy bills, and the ongoing recovery in the tourism sector.
Private consumption will remain an important driver of the economy through Q1. This has been lifted by: (i) improving sentiment that is now reflected in the rise in 6-month consumer confidence expectations to 71.9, its highest since March 2020; (ii) the impact on service sector’s income and employment of the continuing recovery in the tourism sector, and with 2M24 arrivals numbering 6.39m, accounting for 87% of the pre-Covid (2M19) total, the sector generated income worth THB 310bn (88% of its pre-Covid level); and (iii) government measures to address the cost of living, debt holidays for those in the agricultural sector, and systematic debt reform. However, consumers remain concerned about the only slow and anemic levels of growth, the impacts of the drought on agricultural yields and income, and the possibility that ongoing global geopolitical tensions may keep crude prices elevated and impact manufacturing costs and consumer spending power. Moreover, pent-up demand has largely dissipated and there is a risk that payback effects from the ending of the Easy-E-Receipt may be felt. The high level of household debt and the elevated cost of borrowing will also impact consumers. We therefore see private consumption expanding by 3% in 2024, slowing down from 7.1% a year earlier.
Headline inflation remained negative in February for the 5th month, but may have passed its bottom and could turn positive in Q2. Headline inflation stood at -0.77% YoY in February, compared to a 35-month low of -1.11% in January. The price index was depressed by the increased supply and thus falling prices of fresh meat and vegetables, and the effect of government policy on the cost of diesel and electricity, which were lower than their levels at the same period last year. Core inflation, which excludes raw food and energy costs, also cooled from 0.52% to 0.43%. For 2M24, headline and core inflation stand at -0.94% and 0.47% respectively.
Headline inflation will remain negative through Q1, continuing the trend from the final quarter of 2023. Falling prices are partly attributable to government controls on the price of diesel and electricity bills, but headline inflation could turn positive in Q2 as (i) base-effects end, (ii) the THB 30 cap on diesel prices expires on 19 April 2024, and (iii) commodity prices could be impacted by the drought and ongoing geopolitical tensions. In addition, prices may be affected by this year’s second hike to the minimum wage. At present, the Ministry of Labour is considering a range of possibilities, but a hike is likely to be restricted by area and occupation, and initially, this is planned to take effect in Q2.
With regard to the policy interest rate, our assessment is that although the Thai economy is expected to grow stronger than last year, the rate of growth will remain low, and both headline and core inflation are expected to remain close to their pre-Covid level through this year (over 2016-2019, these averaged 0.7% and 0.6% respectively). This will therefore encourage the Monetary Policy Committee to begin making rate cuts in mid-2024.
