Oliver Mangan: Markets have some tricky waters to negotiate yet
Christine Lagarde said it was too early to discuss slowing its bond purchase. Picture: Getty Images
ECB Council members have taken to the airwaves in the past week to dampen market fears that monetary policy could soon start to be tightened in the Eurozone against the backdrop of strengthening economic growth and rising inflationary pressures. Markets have been worried in particular that the upcoming ECB Council meeting on June 10 could see the central bank move to reduce or taper bond purchases.
These concerns saw steady upward pressure on Eurozone bond yields, with 10-year German and Italian yields rising by 30bps and 50bps, respectively, over the past two months. However, there has been a parade of ECB speakers out in the past week to assuage such fears.
ECB President Lagarde said it was too early to discuss slowing its bond purchase programme, a message reinforced by other ECB speakers. This has had the desired effect, with bond yields falling in recent days, most notably in peripheral markets. Tapering by the ECB is not on the agenda this summer.
Meanwhile, across the Atlantic, the Fed has also succeeded in calming market fears that it could soon start to tighten policy in the face of a rapid growth and a sharp rise in inflation. As a result, 10-year Treasury yields have been confined to a narrow trading range of 1.55% to 1.7% over the past two months.
The Fed may begin discussing the issue of tapering this summer, but it has indicated that any move to start tightening policy would be signalled well in advance to markets. As such, the Fed is not expected to begin reducing asset purchases until around the turn of the year.
However, to some extent, this is just postponing the day of reckoning for markets.
Central banks are going to have to start scaling back their enormous monetary stimulus at some stage and the challenge will be to avoid this causing too much dislocation in markets.
This week’s US employment report for May could present another tricky challenge for markets. The April rise in payrolls came in at just 266,000, far below the forecast one million increase. This left payrolls still 8.2 million below their pre-Covid level.
Survey data, though, shows 8 million job openings in the US so it is hard to explain the weak payroll growth in April as the economy regained momentum. The consensus forecast is for close to a 700,000 rise in payrolls in May. A much bigger increase is possible after the weak April figure, which could stoke market fears of an overheating economy.
On the other hand, another low payroll number could also prove to be a concern.
Both surveys and media reports suggest that firms are struggling to recruit staff as businesses re-open. It may be that enhanced state income support payments are discouraging people from returning to work, although, these will start to be wound down soon in some states. It is also possible that Covid fears are keeping some people out of the workforce.
There may have been a change in lifestyle brought about by the pandemic as well, whereby people are prepared to work less and accept lower incomes. All this could point to scarring from the pandemic taking the form of much lower labour force participation rather than high unemployment.
The outcome would almost certainly be more rapid wage growth and a risk that the rise in inflation this year becomes more embedded. Markets have some tricky waters to negotiate yet.
- Oliver Mangan is Chief Economist with AIB
