Rates Go Your Own Way

• Policy divergence was surprisingly wide over the past week yet consistent with our modal calls as the BoE cut, BOJ hiked, and the Fed softly signalled a September step. EA inflation increased, contrary to expectations, but landed within 1bps of our forecast.
• Macro events may take a backseat to market factors again next week despite decisions from the RBA, Mexico and Peru. There’s a lack of data releases on the calendar ahead of the UK’s mid-month flurry in the following week. We’ll publish our latest monthly.

Events in a packed week have broadly gone our way, aided by policymakers going their own divergent ways. So the BOJ hiked, the BoE cut and the Fed softly signalled it would follow through in September. Although no change from the Fed was widely expected, the other two were close calls, cumulatively extending the three-way global policy divergence.

Chile delivered the cleanest surprise among central banks as it refused to cut again, arguably tracking slightly behind Brazil, where rates have been on hold for a few months. Colombia continued to cut in 50bps chunks, with next week’s monetary policy focus shifting to Mexico and Peru in Latam and Australia among the majors.

We were most focused on the BoE, which matched our forecast for a 25bp rate cut to 5.00%. That still constitutes dovish news as the decision was finely balanced for and between MPC members, the consensus and pricing. The MPC’s confidence in the forecast increased enough to cut, yet risks now skew higher from persistently high wage inflation. It is noncommittal about cutting again. We still expect another cut in November before pausing amid excessive wage growth. That modal call could invert to rate hikes if the Fed also cuts prematurely (see BoE Cut Through Fine Balance).

Looser fiscal policy and bumper pay settlements in the new Chancellor’s big reveal already warrant relatively tighter monetary policy. Of the ￡22bn fiscal hole revealed by Rachel Reeves, only a quarter is loosely covered by freshly announced cuts. Over half reflects enormous public sector pay increases that the government chose to accept. Budget announcements on 30 October should pay for some of that, but it adds hawkish pressure to 2025 (see UK Fiscal Hole Reeves-ealed).

Meanwhile, in the euro area, nominal data are rudely resilient. Inflation exceeded the consensus by 0.2pp as it increased to 2.6% y-o-y in July but was within 1bps of our forecast as our surprises were less and offsetting. Further resilience in services inflation kept the core at 2.9%, demonstrating upside news in the less volatile areas more reflective of domestic conditions. Forecasts for July had been trending higher, challenging the ECB narrative where stability permits cuts. September remains likely, but the cycle could be doused swiftly (see EA: Inflation Drift Risks Drowning Cuts).

Real GDP growth also defied expectations for it to slow like the EA surveys, remaining at 0.3% q-o-q in Q2. Germany’s surprise fall may disappear as actuals replace estimates. Sustaining something close to potential growth without a shallow recession to recover suggests cyclical pressures are stable, like the unemployment rate. Effective monetary conditions do not currently look tight in the Euro area. Rate cuts to offset belated passthrough are inherently more limited and at risk of reversal (see EA GDP Growth Steadier Than Surveys).

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