Monetary policy is expected to continue tightening in 2018, as economic activity remains robust
The Fed raised the Federal funds rate by 25 bps to 1.50%, as expected, while projections for the years ahead were broadly unchanged. Specifically, despite higher GDP and tighter labor market projections (see Economics), the Fed continues to expect three further hikes in 2018 to 2.25%, as it remains cautious on inflation dynamics. The upgrade in GDP forecasts (by 0.4 pps to 2.5% for 2018) was due, inter alia, to the assumption of a higher fiscal stimulus.
On that point, the US Senate and House reached an agreement on a tax reform bill, which will likely become law by the end of the week. Specifically, the corporate tax rate will be reduced to 21% from 35% currently (and 20% in previous versions of the reform), effective from 2018.
Regarding the personal income tax, the brackets have not changed, but most of the rates have been lowered, including the top rate from 39.6% to 37%. According to the Congressional Budget Office, the final proposal will add $ 1.46 tn to the Federal Budget Deficit cumulatively over the next ten years (excluding positive macroeconomic feedback).
The ECB refrained from making any major policy announcements or changes in forward guidance, as expected. Robust economic activity and confidence indicators so far in 2017 prompted an upgrade in the ECB staff GDP forecasts, while projections for inflation were little changed, due to still muted domestic price pressures (see Economics).
The Bank of England maintained its policy rate unchanged at 0.50%. It expressed optimism that the recent modest loosening of the Government’s fiscal stance will provide support to GDP growth, while appearing more confident for a smooth “Brexit”. In the event, the EU Summit on December 15th confirmed the start of discussions on the future relationship between the EU and the UK.
In China, November data suggest that GDP growth continues to slow (albeit very gradually) in Q4:17 (consensus: 6.7% yoy versus 6.8% yoy in Q3:17 and 6.9% yoy in H1:17), inter alia, due to the renewed focus on stemming excessive leverage, overcapacity and environmental pollution. Recall that industrial production has averaged 6.2% yoy so far in Q4:17, from 6.3% in Q3:17 and 6.7% yoy in H1:17.
Global equities recorded gains during the past week (MSCI World: +0.6% wow), driven mostly by US equities. Indeed, the S&P 500 was up 0.9% wow (+19.5% ytd), due to progress on tax reform and a still dovish Fed. Regarding sectors, US Banks were broadly unchanged (+19% ytd), while Information Technology gained 1.8% wow (+39% ytd).
The EuroStoxx was down by 0.9% wow (+10.9% yoy), negatively affected by political uncertainty in Spain (-1.7% wow), ahead of the Catalan regional elections on December 21st, and Italy (-3.0% wow), where general elections are now likely to take place on March 4th. Spain’s 10-year bond yield was up by 6 bps wow to 1.46% and Italy’s by 16 bps wow to 1.81%.
Fitch raised Portugal’s credit rating to BBB (investment grade), in line with DBRS and S&P (Moody’s assessment remains at sub-investment grade). As a result, Portugal’s 10-year bond yield declined by 6 bps on Monday, to 1.78%, the lowest since April 2015.