Global Daily – PEPP numbers add to ECB confusion

The PEPP numbers will be seen as disappointing by financial markets. ECB official speakers over the last days have given mixed messages on the rise in bond yields and their reaction function to it. The PEPP numbers (rightly or wrongly) were seen as the litmus test of whether the ECB was concerned by the moves and whether it was serious about intervention. The answer from the PEPP numbers – at least on the surface – will be seen as ‘No’ to both questions. However, we still judge that the ECB is concerned and will intervene more forcefully – but as with everything with the Eurosystem – it takes time. We are approaching levels of the GDP weighted eurozone bond yield consistent with a much higher pace of purchases in the past (please see our note here for more detail). An acceleration in PEPP is more a matter of ‘when’ rather than ‘if’ in our view.

In addition, the ECB can enhance its forward guidance either this week (or most likely a later stage) to reign in market rate hike expectations. It could do this indirectly by signalling an even longer period of net asset purchases under the PEPP. This could be a credible signal that the deposit rate will remain on hold for longer than markets were pricing in, given that the policy rate will not go up before asset purchases end.  Furthermore, the ECB could add date-based guidance to its current state based guidance. For instance, it could set out exactly when the Governing Council expects that inflation would converge to the target and be reflected in underlying inflation dynamics given current projections. (Nick Kounis)

Euro Macro: Germany’s industry stronger than suggested by the slump in January – Germany’s industrial production fell by 2.5% mom in January, which was well below the consensus and our own forecast. On a positive note, however, the December outcome was revised higher, from an earlier reported stabilisation to a 1.9% expansion. Therefore, taking the results from the final month of 2020 and the first of 2021 together, only a modest decline results. The details of the January report show that the weakness was concentrated in construction (-12.2% mom) and that manufacturing output fell by only 0.5%. The drop in construction in January was probably related to bad winter weather and followed upon five successive months of non-stop robust growth of almost 14% in total.

Within manufacturing, production of motor vehicles fell the most in January (-10.8% mom), whereas production of machinery and equipment was the strongest (+9.7%). Looking at the main categories of Germany’s manufacturing production and how they have performed since the start of the pandemic, it turns out that production of motor vehicles and other transport equipment clearly has been weakest. Compared to pre-pandemic levels (average December 2019-February 2020), production of motor vehicles had dropped by 14.5% and that of other transport equipment by 13.5% in January. In contrast, production of computers, electronics and electrical equipment grew by 3.7% during the same period, while production of chemicals expanded by 3%. Finally, production of food products, beverages and tobacco also was still significantly below pre-pandemic levels in January (-9.5%).

The weakness in manufacturing production at the start of this year was in conflict with the rise in factory orders during the months before. Indeed, factory orders increased by 7% qoq in 2020Q4 and rose by another 1.4% mom in January 2021. Moreover, Germany’s manufacturing PMI and the Ifo business climate in manufacturing have risen to levels that are consistent with robust growth in the sector in the first few months of 2021. More fundamentally, Germany’s industrial sector will continue to benefit throughout this year from ongoing growth in global trade and industry, which are making up for earlier losses during the pandemic and also are supported by global monetary and fiscal policy stimulus. That being said, the weak start to the year is in line with our view of contraction in Germany’s GDP in Q1 (we have pencilled in around -1.5% qoq), as industrial production will not be strong enough to compensate for a sharp decline in services sector activity on the back of renewed lockdowns from around the middle of December onwards.  (Aline Schuiling)