The President of the European Central Bank (ECB), Mario Draghi, is set to leave his post on October 31st this year, paving the way for a new contender to get the Eurozone out of its recent economic slump. Following talks between EU leaders, the nomination is the International Monetary Fund (IMF) head, Christine Lagarde. Lagarde’s background with the IMF has involved supporting economies with IMF packages to aid recovery from crises. This seems fitting considering the current state of the Euro Area economy. Eurozone inflation is just half of the ECB target, and forecasted growth for 2019 is just 1.2%, down from realised growth of 2.4% only 18 months ago.
Lagarde has previously proposed policies for the ECB, which in today’s climate, look attractive. While the ECB has been weighing up monetary policy tools - many of which may have limited efficacy due to a lack of capacity for easing, Lagarde has spoken out about fiscal stimulus. The ECB has improved the government budget for nine consecutive years, creating headroom for fiscal stimulus to be ramped up in the common currency area. However, the aggregate budget is still negative and varies widely across the area; Germany’s budget is at 1.7%, and Italy’s budget is at -2.1%. Areas in need of stimulus are likely to have a weak budget position already, and will need to increase borrowing, a controversial subject in the case of Italy. Lagarde has also advocated further outright monetary purchases, a policy that is already widely anticipated along with cutting interest rates.
Bottom line: Lagarde certainly has the credibility to be the next ECB leader and is advocating much-needed stimulus to aid the Eurozone out of its current slump. Her policies are likely to support the currency bloc, at least in the short-term, but will only delay the inevitable burden of raising rates and reducing the ECB’s balance sheet in the long-run. Should her policies prove effective, a short-term rally in the Euro could be expected, although the long-term policy reversal clouds the outlook.
Yesterday, US President Trump announced two new picks for the remaining seats on the board of Governors at the Federal Reserve. Within minutes of each other on Twitter, Trump announced the two hopefuls as Christopher Waller, a St. Louis Fed VP, and Judy Shelton, a more unconventional pick from outside mainstream economics. However, they both share the President’s view that the US should lower interest rates. Waller is Director of Research for St. Louis Fed President, James Bullard, the only member of the Fed who voted for a rate cut in June. Meanwhile, Shelton, a US Director at the European Bank of Reconstruction and Development, has publicly supported the Fed reducing rates. Both picks still need to be ratified by the Senate, which is no mean feat considering Trump’s previous four picks all failed to achieve confirmation.
As an already established Fed staffer, Waller should get past lawmakers with relative ease. His background includes developing a paper in 2016 (along with Bullard) with the view that monetary policy is in a new regime where low inflation and high savings mean that higher interest rates are unnecessary. Shelton may come up against opposition in the Senate; she’s previously criticised the ‘Soviet power’ of the Fed, questioned whether the central bank should retain its rate-setting powers, and supports a return to the ‘gold standard’.
Bottom line: If confirmed, Trump’s move will place two doves at the heart of a Fed already expected to begin a cycle of interest rate cuts beginning this month. As an informal adviser to Trump, Shelton could bring the autonomy of the Fed into question if she’s seen pushing Trump’s agenda too aggressively.
Trade-weighted Sterling extended its downward trend from mid-June levels following comments by the Bank of England (BoE) Governor Mark Carney about concerns for the global economy. The Dollar Index traded flat yesterday so today’s ISM Non-Manufacturing Purchasing Managers Index (PMI) release will be key in providing direction.
Yesterday’s losses for the Pound drove the pair steadily lower, a theme that’s carried into this morning. The pair has now softened almost 5.5% since the beginning of May.
The pair is trading in a tight range and struggling to find direction following the Euro Index’s losses on Monday. The focus this morning will be on European Services PMI data.