Daily Commentary BY THE CURVE TEAM –

Monetary Policy Divergence Set to Continue For Now

27th of July, 2018

The data and events over the past week have confirmed that the monetary policy divergence is set to continue amongst major developed economies. The degree to how much that divergence continues to be will largely depend on a key data released tonight and a central bank meeting next week.

After expecting a little more hawkish tone, markets were disappointed when ECB President Mario Draghi reiterated the same message on the outlook following last night’s meeting. The ECB is still expected to wind up its QE program by the end of the year with the first rate hike unlikely to come until at least mid next year.

The news that the ECB is in no rush follows the latest inflation data in Australia this week that confirmed that the preconditions for the RBA to lift rates remain absent. Markets have since lowered their expectations for the cash rate with market pricing suggesting we will see no move this year or next.

The outlook for the ECB and RBA remains a stark contrast to the Fed who is still expected to hike at least once and maybe twice by the end of the year. Tonight’s data could have a large impact on the market’s expectations.

Q2 GDP is due out in the US and the market is looking for a decent acceleration in growth from Q1. Market expectations currently see an annualised growth rate of 4.1% which is a little over 1% growth in the way we report it here in Australia. Data overnight suggests there could be downside risk to the final print which could see increased market volatility when the number is released tonight.

At the other end of the spectrum to the Fed is the Bank of Japan who is set to meet next week. This will be a very important meeting for markets following the reports this week that the BoJ could be set to move away from its extremely accommodative setting of monetary policy by making some adjustments to its Yield Curve Control program.

So while divergence amongst the monetary policy outlooks is set to continue, we could see the gap close over the next week depending on the incoming data and central bank meetings.

David Flanagan

Director - Interest Rate Markets