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Political risk is back to haunt European stock markets

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The Fed could sound more worried about the virus and less ready to tighten policy

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Federal Reserve Chair Jerome Powell testifies during a U.S. House Oversight and Reform Select Subcommittee hearing on coronavirus crisis, on Capitol Hill in Washington, June 22, 2021.

Graeme Jennings | Pool | Reuters

When the Fed emerges from its July meeting, it may sound a bit more prone to keeping its ultra-easy policy in place than expected just a few weeks ago.

Federal Reserve officials are expected to express concerns about the rapidly spreading delta variant of the coronavirus. The market has been waiting to hear from the Fed on its plans to pare back its bond buying program, the first major step in easing policy.

“This was supposed to be the meeting where they were really focusing on tapering,” said Mark Cabana, head of short U.S. rate strategy at Bank of America. “We think the market is going to end up hearing Powell sound neutral to dovish , at least from a rates market perspective, primarily because he’s going to keep talking about downside risks from Covid.”

The Fed releases a statement Wednesday at 2 p.m. ET, following its two-day meeting. Chairman Jerome Powell speaks to the media at 2:30 p.m.

Fed watchers expect officials to discuss tapering back their minimum $120 billion monthly purchases of Treasury and mortgage-backed securities. They also expect it to move toward starting the wind down within the time frame of late this year or early next year.

Powell is also expected to stick to the view that the recent spurt in inflation is temporary, and that it will fade after a burst of pent-up demand spending and as supply chain issues are resolved.

“In the FOMC statement, they talk about how the path of the economy is dependent on the path of Covid,” said Cabana. “Because of that, they’re naturally going to sound cautious. They’ll talk about tapering, but that will seem a formality given the fact they’re going to have to note there are increasing downside risks.”

The timing of tapering

The Fed has widely been expected to start seriously discussing the roll back of its bond purchases in late August at its Jackson Hole symposium or at its September meeting. The slowing of purchases were expected by some to begin before the end of the year.

But Cabana has been looking for the Fed to start tapering early next year, cutting back evenly on both mortgage and Treasury purchases over a 10-month period.

“I think the resurgence of Covid pushes back on the notion that they’re going to start tapering in Q4,” he said. “I think we can all agree if we’re living with Covid longer than we thought inflation becomes much less of a concern potentially because demand is going to wane. In that context, we think there’s really one thing … that matters in the world and that’s the path of this virus.”

Cabana said he expects the Fed to signal at its September meeting that it will slow the bond purchases. He also looks for Powell to say the purchases do not have to be mechanical, and the Fed could slow or speed them if it wants.

The Fed is widely expected to take as long as a year to end the purchases, and at that point, it could be open to raising interest rates. In its forecast, it has two interest rate hikes in 2023.

“He’s going to have to admit that the delta variant makes uncertainty about the outlook much higher. He has to be very careful about the words he uses,” said Diane Swonk, chief economist at Grant Thornton. Economists said the delta variant is not yet showing up in economic data, but it could.

“The problem is it’s now harder to work through these supply chain problems,” she said. “It may dampen demand as well….I wouldn’t be surprised to see people cancelling going inside to restaurants.”

The Centers for Disease Control Tuesday was expected to recommend that even vaccinated people should wear masks indoors in areas where there are high Covid transmission rates. The real risk to the economy is if the spreading variant slows the reopening or forces schools to remain shut.

Swonk said the Fed is talking about tapering, and some members are encouraging it sooner rather than later. But if the Covid variant begins to impact the economy, that could impact the discussions.

“It could change their taper timeline. I don’t think they want to change anything yet because they want to see what happens first,” she said. “The biggest thing about tapering is, can financial markets stay functioning while they’re going through this. Much will depend on whether we can we follow a U.K. model and get to the point where it’s more manageable again.”

Jim Caron, head of global macro strategies at Morgan Stanley Investment Management, said he expects Powell to sound much as he did during his recent congressional testimony on the economy.

“Just like he said in his semiannual testimony, ‘Things are getting better, but we still may be a ways off from reaching substantial further progress,'” Caron said. “I think they are going to say they talked about tapering, but he’ll come back with no decisions have been made yet.”

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U.S. airstrikes continue against the Taliban amid troop withdrawal

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A picture taken on January 13, 2020, during a press tour organised by the US-led coalition fighting the remnants of the Islamic State group, shows US army drones at the Ain al-Asad airbase in the western Iraqi province of Anbar.

Ayman Henna | AFP | Getty Images

WASHINGTON – The United States will maintain a steady drumbeat of airstrikes in Afghanistan as foreign forces exit the country amid rapid battlefield advances by the Taliban.

“The United States has increased airstrikes in the support of Afghan forces over the last several days, and we’re prepared to continue this heightened level of support in the coming weeks if the Taliban continue their attacks,” wrote U.S. Marine Corps Gen. Frank McKenzie in a statement.

Mckenzie, the combatant commander who oversees America’s wars in the Middle East, told Afghan President Ashraf Ghani over the weekend that the U.S. would continue to provide airstrikes but made no promise about what will happen after Aug. 31.

Marine Corps Gen. Kenneth McKenzie Jr., commander of the U.S. Central Command testifies before the Senate Armed Services Committee during its hearing on the “U.S. Central Command and U.S. Africa Command in review of the Defense Authorization Request for FY2022 and the Future Years Defense Program in Washington on Thursday, April 22, 2021.

Caroline Brehman | CQ-Roll Call, Inc. | Getty Images

“I reassured the government that we are continuing to provide airstrikes in defense of ANDSF forces under attack by the Taliban, contract logistics support both here in Kabul and over-the-horizon in the region, funding for them, intelligence sharing and advising and assisting through security consultations at the strategic level,” McKenzie wrote.

Last week, the Pentagon confirmed media reports of overnight airstrikes against the Taliban in Afghanistan. Defense Department spokesman John Kirby would not provide further details about the strikes, including what type of aircraft was used.

The strikes reflect Washington’s intentions to continue supporting Afghan forces with combat aircraft until U.S. forces withdraw next month.

In April, President Joe Biden ordered the full withdrawal of approximately 3,000 U.S. troops from Afghanistan by Sept. 11, effectively ending America’s longest war. Earlier this month, Biden gave an updated timeline and said that the U.S. military mission in Afghanistan will end by Aug. 31.

U.S. Chairman of the Joint Chiefs of Staff General. Mark Milley participates in a news briefing at the Pentagon May 6, 2021 in Arlington, Virginia.

Alex Wong | Getty Images

Last week, the nation’s highest military officer told reporters that the U.S. has completed more than 95% of the massive withdrawal from Afghanistan.

The Pentagon has airlifted more than 980 loads of equipment out of Afghanistan and handed over seven facilities to the Afghan Ministry of Defense, according to the latest update from Central Command.

In another symbolic end to America’s military presence in the country, U.S. Army Gen. Scott Miller, the last four-star commander to serve on the ground in Afghanistan, stepped down from his role and returned to the United States.

The removal of U.S. and coalition forces coupled with substantial Taliban gains have stoked concerns that the nation will once again succumb to terrorist organizations.

A new United Nations report found an uptick in civilian casualties in Afghanistan beginning in the first few months of 2021. According to the report, more than 2,300 civilian casualties were recorded in May and June, a figure that nearly trumps the combined total from the previous four previous months.

Earlier this month, the Biden administration announced the beginning of evacuation flights for Afghan nationals and their families who assisted U.S. and NATO coalition forces during America’s longest war.

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IMF warns that inflation could prove to be persistent

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Customers shop for produce at a supermarket on June 10, 2021 in Chicago, Illinois.

Scott Olson | Getty Images

The International Monetary Fund warned Tuesday that there’s a risk inflation will prove to be more than just transitory, pushing central banks to take pre-emptive action.

The issue is currently dividing the investment community, which has been busy contemplating whether a recent surge in consumer prices is here to stay. In the U.S., the consumer price index came in at 5.4% in June — the fastest pace in almost 13 years. In the U.K., the inflation rate reached 2.5% in June — the highest level since August 2018 and above the Bank of England’s target of 2%.

For the most part, the Washington-based institution sees these price pressures as transitory. “Inflation is expected to return to its pre-pandemic ranges in most countries in 2022,” the Fund said in its latest World Economic Outlook update released Tuesday.

However, it warned that “uncertainty remains high.”

“There is however a risk that transitory pressures could become more persistent and central banks may need to take preemptive action,” the IMF said.

Higher prices increase the chances that central banks will start to curb their ultra-accommodative monetary policies, such as a tapering of market-friendly stimulus like asset purchases.

More persistent supply disruptions and sharply rising housing prices are some of the factors that could lead to persistently high inflation.

Gita Gopinath

IMF Chief Economist

Speaking earlier this month, U.S. Federal Reserve Chair Jerome Powell said the jobs market was “still a ways off” from where the central bank would like to see it before it reduces stimulus. He added that inflation would “likely remain elevated in coming months before moderating.”

The IMF had already pointed out earlier this month that if the U.S. were to provide more fiscal support then this could increase inflationary pressures even further and lead to a hike in interest rates earlier-than-expected.

IMF Chief Economist Gita Gopinath said in a blogpost Tuesday that “more persistent supply disruptions and sharply rising housing prices are some of the factors that could lead to persistently high inflation.”

She also warned that “inflation is expected to remain elevated into 2022 in some emerging market and developing economies, related in part to continued food price pressures and currency depreciations.”

Global recovery is ‘not assured’

The IMF on Tuesday kept its global growth forecast at 6% for 2021, but it revised its expectations for 2022.

Instead of a gross domestic product rate of 4.4%, as predicted in April; the Fund now sees a growth rate of 4.9% next year.

“The 0.5 percentage point upgrade for 2022 derives largely from the forecast upgrade for advanced economies, particularly the United States, reflecting the anticipated legislation of additional fiscal support in the second half of 2021 and improved health metrics more broadly across the group,” the IMF said.

However, the outlook is dependent on the coronavirus vaccination campaigns. 

According to Our World in Data, 13.81% of the global population is fully vaccinated against Covid-19 and 13.46% are partially inoculated. This shows the stark difference between advanced and developing economies.

In the U.K. and Canada, more than 54% of all citizens are fully vaccinated. In South Africa, that number drops to 3.9% and in Egypt to 1.57%.

“Vaccine access has emerged as the principal fault line along which the global recovery splits into two blocs: those that can look forward to further normalization of activity later this year (almost all advanced economies) and those that will still face resurgent infections and rising COVID death tolls,” the Fund said.

“The recovery, however, is not assured even in countries where infections are currently very low so long as the virus circulates elsewhere,” the IMF warned.

 

 

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