Brief Macro: Fed Policy Credibility: Financial Markets Raise the Heat and more

In this briefing:

1. Fed Policy Credibility: Financial Markets Raise the Heat
2. Japanese Inflation – Much Ado About Nothing
3. Philippines: No Dovish Pivot in the Monetary Board’s Latest Meeting
4. Europe Vs China/Trade War/Huawei/Tech Moves/Bonds
5. Lead Intact, Says Preponderance of Polls / MRT Tariff Undecided / EU Trade Tension / PDP Bill Sought

1. Fed Policy Credibility: Financial Markets Raise the Heat

The Federal Open Market Committee (FOMC) sought to further mitigate the fallout from last December’s rise in the federal funds rate by ignoring its own economic models, and, instead, embracing a more dovish outlook for the policy rate, as well as slowing the planned pace of its balance sheet roll off.

No further interest rate increases are envisaged by the FOMC in 2019, while any required in 2020 will not take policy settings into restrictive territory due to the imminent arrival of sustainable growth.

The persistently low inflation backdrop has permitted the Fed to embrace a dovish approach, but engineering a significant decline in real interest rates could prove problematic if the economy falters at some future point.

Fears about yield curve inversion and recession risks persist, despite the Fed’s dovish tilt, thereby potentially raising concerns about the overall credibility of monetary policy conduct.

US short-term interest rates are being anchored to a “new normal” environment of low inflation and slower economic growth compared to history, and, consequently, the bond market appears to have won its battle of wills with the FOMC by forcing members to reduce their estimate of the neutral federal funds rate.

2. Japanese Inflation – Much Ado About Nothing

Japan’s policymakers continue to fret about the lack of inflation but it is worth remembering the norm globally and historically is for the price of manufactured goods to decline over time. As companies grow, specialise and scale up the cost of production falls and with it final consumer goods prices. Falling retail prices which increase consumer real purchasing power is good news for Japanese households and for discretionary spending. Moreover with labour productivity growth outpacing wages costs by a wide margin, companies can absorb lower prices without sacrificing profitability. Stay overweight Japanese equities.

3. Philippines: No Dovish Pivot in the Monetary Board’s Latest Meeting

• The anticipated cut in the bank reserve ratio didn’t materialize in the latest Monetary Board (MB) meeting–the first one chaired by newly appointed BSP Gov. Benjamin Diokno. In the ANC televised interview, Diokno expressed his preference to reduce the high bank reserve requirement ratio (RRR: 18%) by 1% every quarter, fueling bond market excitement that severely compressed yields. The policy rate was also unchanged amid the dovish tone in the BSP’s press release after the meeting.

• According to a senior monetary official, the RRR cut is a ‘live’ issue. That the timing of any adjustment is key given the operational and policy implications of an RRR cut.

•  Accentuating the MB’s depiction of benign inflation is an inflation trajectory settled comfortably in its target band in 2019-20 with inflation expectations close to being anchored within the band as well.  Key downside risk to growth cited by the MB is the ‘current budget impasse in Congress is not resolved soon’. Prolonged El Niño is among those factors that can upset the broadly balanced risks to inflation.

• A BSP under a pro-growth BSP chief need not necessarily change the ‘sequencing and timing’ of monetary policy decisions/actions facing liquidity and growth challenges. Likelihood that 1Q GDP (May 9 release) may be given slight emphasis in the BSP’s shift to accommodation starting with the bank reserve cut.  
• We expect a bond market correction following excitement over the BSP’s dovish pivot this early that led to severe yield compression. Buy the 5yrs to short-duration on dips.

4. Europe Vs China/Trade War/Huawei/Tech Moves/Bonds

China News That Matters

• Rome revives the Old Silk Road
• Double or triple it! Trump wants more 
• Huawei: filing patents, feigning patience
• Chinese firms push Beijing’s AI dreams 
• Bonds at the bank

5. Lead Intact, Says Preponderance of Polls / MRT Tariff Undecided / EU Trade Tension / PDP Bill Sought

The presidential race is unchanged as data from a premier polling firm, SMRC, shows a 26 percentage point lead for Widodo.  Thus far only one poll has shown a narrow lead — 12 percent, according to Kompas — but until other data corroborates this, it appears to be an outlier that does not change the outlook.  Widodo is heavily touting the MRT opening, but provincial leaders are struggling to set a tariff rate — it will therefore still be free when it opens for public use on 25 March.  The Religion Ministry appointments-graft scandal threatens to implicate the minister.  Trade acrimony with the EU is escalating.  West Java Governor Ridwan Kamil, a 2024 presidential contender, garnered negative publicity for appointing relatives.  Legislators and stakeholders are clamoring for government progress on a draft Bill on Personal Data Protection.

Politics: Eager to maximize advantages from the imminent commercial start of Jakarta’s Mass Rapid Transit (MRT) line, President Joko Widodo claimed credit for having made a “political decision” to take on the project’s cost.  In fact, the magnitude of those costs to the province remains unclear: three days from the start of operations, policymakers have yet to set the tariff for riders (Page 2).  The corruption scandal enveloping the Islamic United Development Party (PPP) – at the worst possible time in the election cycle – could further depress the clout of Islamic interests in the next parliament (p. 3).  West Java Governor Ridwan Kamil invited criticism by appointing two relatives to a high-profile Development Acceleration Team (TAP) under his aegis (p. 4).

Surveys: The large lead for President Joko Widodo appears intact, based on findings from three recent polls, although one reputable agency produced divergent results.  Widodo has a lead of at least 19 percentage points according to three surveys in late February and March: in addition to the Survey Network (LSI) and Alvara Research (discussed in recent Ref Wkly editions), new data has emerged from Saiful Mujani Research and Consulting (SMRC) placing Widodo’s margin over Prabowo at 26 percentage points.  A poll conducted simultaneously by Kompas measured the lead at only 12 percentage points – but until other polling corroborates this, it constitutes an outlier that lacks significance.  In any event, even if Widodo’s lead has shrunk as much as Kompas claims, he would still enjoy a comfortable cushion (p. 4). 

Justice: Religion Minister Lukman Saefuddin is under scrutiny after investigators discovered Rp600 million in cash in his office desk drawer.  Meanwhile, former PPP Chair Romahurmuziy failed to appear for questioning as a suspect (p. 7).

Policy News: Public officials clamored for a long-awaited Bill on Protecting Personal Data (RUU PDP) (p. 8).  Energy Minister Ignatius Jonan welcomed a parliamentary suggestion to subsidize the higher-octane petroleum product Pertamax, rather than Premium – but he remained noncommittal about implementation (p. 9).

Infrastructure: Jakarta’s governor rejected suggestions from provincial legislators that the MRT should be free, or at least free for Jakarta residents (p. 10). 

International: Policymakers denounced the European Union (EU) for allegedly discriminating against biodiesel from crude palm oil (CPO).  The planned Comprehensive Partnership Agreement with Europe (IEU‑Cepa) could be at risk (p. 11).