Mizuho daily – Peak or persistent reflation? | BI: Patient doves?

Mizuho daily insights by Vishnu Varathan, Head, Economics & Strategy, Asia & Oceania Treasury Department, Mizuho Bank, Ltd.,

Peak or Persistent Reflation?

The puzzle is that bond yields pulled back below 1.3% despite steady, if not flaring, signs of reflation signs. Perhaps a distinction between persistent  and peak reflation is needed.

Make no mistake. Economic indicators are lighting up on reflation. Notably, US core PPI surged well ahead of expectations (up 1.2% MoM vs. consensus of 0.2%) while US retail sales soared 6% on the month; six-fold of the (~1% MoM) pick-up expected. The temptation is to let out a soft whistle and mutter “Boomtown Charlie”. But the context of fiscal dollars hitting households and businesses in December matters for the January bonanza.

Point being, December’s non-recurring cash handouts might have had a one-off, synchronised lift in purchases; especially being skewed towards electronics and durable goods. And, so signs of overheating in US numbers are almost certainly overstated.

Admittedly, the spillover to upside surprise in US industrial production and housing market data suggest a wider positive multiplier beyond just straight up fiscal push. But the bottom-line is that while the data set underscore reflation underway, the pace of reflation remains obscured by Covid-vaccine uncertainties as well as policy expectations gap.

So, the jury is out of the pace and persistent of reflation.

As a corollary, whether reflation has peaked or not is also not clear one way or another. But that said, it does appear that inflation expectations have run a little too far ahead. Especially given that  recent oil surge is mostly transitory supply squeeze from US output disrupted due to severe freeze in Texas. So, even inflation expectations are not set to peak, it may at least warrant a pause from the persistent rise.  And the attendant buoyancy in real yields is lending some traction to USD.

EUR is subdued at mid-1.20, USD/JPY is consolidating mid-105 to 106 and USD/SGD sub-1.33. AUD also holding around mid-0.77 despite RBA assertion it is ~5% undervalued thanks to policy.

Both equities and bond yields off highs suggest re-evaluation. But with FOMC Minutes alluding to “some time for substantial progress”, peak reflation may be obscured by persistent stimulus.

Bank Indonesia: Patient Doves?

Although the conditions, in particular the weak USD accommodating a firmer IDR (recent tests below 14,000), are ripe for Bank Indonesia (BI) to deliver a 25bp rate cut, if it so wishes, it may not be in a rush to do so. From a more holistic fundamental perspective, the stability of the IDR, low inflation and the weak growth backdrop support further easing from BI.

However, with financial markets on a bit of an inflection point and UST yields rising sharply, BI could choose to wait out this period and deliver the cut in March.

More importantly, given demand and supply-side constraints on credit growth, BI may not see any immediate value-add in delivering a cut at its meeting today.

To be sure, our forecast pencils in only another 25bp rate from BI this year as the cherry on the cake to its deep rate cutting cycle from 2020; contingent on the window of opportunity. But that said, there is a rising risk that this cut may not materialise; given that BI may be more inclined to support growth by reducing the non-rate barriers for credit growth, using macroprudential policies and other liquidity support measures.

What’s more, with the outlook for growth still uncertain from repeated, intensifying waves of Covid-19, BI may feel it more prudent to save its rate cut bullets for later.

All said, Bank Indonesia while unambiguously skewed to easing may be patient doves.

Source: Mizuho Bank Ltd