Global Economy & Markets, Weekly Roundup 07/12/21

07/12/2021 - Reports

Global Economy and Markets

The Treasury yield curve extended its flattening run due to “Omicron” related uncertainty and hawkish Federal Reserve commentary 
Key Takeaways
Realized equity market volatility has increased due to elevated uncertainty regarding Omicron variant’s potential impact on growth, inflation, monetary policy reaction function and corporate profits. S&P500 earnings are expected to rise by circa 10% in 2022 ($220 from $203 in 2021) based on easing supply chain pressures and continued macro recovery. 
A key risk to the above outlook is a hawkish shift in Federal Reserve’s policy, especially if labor market tightens considerably, and as a result, inflation pressures persist longer-than-expected. Note, that, in September, Fed officials expected a Q4:2021 average unemployment rate of 4.8%, whereas realized unemployment rate has been 4.4% (average October and November).  
In a similar vein, Fed officials expected a Q4:2021 average PCE inflation rate of 4.2%, whereas realized inflation has been 5.3% (average of October and the estimate for November based on the Cleveland’s FRB Inflation Nowcasting model). Chair Powell stated that the Fed would consider winding down asset (Treasuries, MBSs) purchases faster-than-scheduled (June 2022). 
The dichotomy between Omicron-induced growth uncertainty and hawkish comments by the Federal Reserve resulted in a sharp flattening of the US 2s10s curve. UST 2Y yields increased by 7 bps to 0.60% and 10Y yields declined by 14 bps to 1.34% suggesting investors are concerned that Fed’s response (faster tapering) could be a policy error. 
At the same time, Chair Powell highlighted that it was no longer appropriate to call the recent sequence of higher inflation outcomes “transitory”, as that word could easily be interpreted as “short-lived”. The Fed’s intended messaging is that it will not leave a permanent mark in the form of higher inflation. 
On CPI inflation, attention now turns to November’s outcome (consensus: +6.7% yoy), due on December 10th. Recall that in October, the annual growth of the headline CPI was +6.2%, the highest since December 1990, with the Energy Index (+30% yoy), contributing 2.7 pps. 
China’s policy makers on Monday (December 6th), signaled an easing of real estate curbs and pledged to stabilize the economy. The People’s Bank of China said it will reduce most banks’ reserve requirement ratio (large banks: 12%), while Premier Li Keqiang said there’s room for a variety of monetary policy tools. 
Recall that the latest data suggest that the bulk of the easing of momentum, evident throughout Q3:2021 (real GDP: +4.9% yoy from +13% yoy in H1:2021), could be behind us. In the event, October’s external trade surprised positively, with the annual growth of exports at +22% (consensus estimates for +16%) from +27.1% in September and of imports at +31.4% (consensus: +19%) from +20.6% previously, a positive indication for domestic demand. 
OPEC+ has agreed to continue ramping up oil production despite the recent collapse in prices (Brent: -18% since November 9th to $70/bl). Nevertheless, the Organization also decided to maintain its last meeting “in session” for possible adjustments if market conditions change substantially due to the pandemic, before its next scheduled meeting (January 4th).