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Eurozone interest rates are expected to rise to 4 per cent on Thursday after clear signals from the European Central Bank, but the Bank of England’s decision on the same day is too close to call.
Policymakers’ concerns about mounting inflationary pressures are likely to be fuelled by this week’s purchasing managers’ service-sector surveys for May, due out tomorrow. The prices-charged measure in both the UK and eurozone report has been trending higher since 2005, adding to evidence from other surveys that companies are feeling confident about passing on cost increases to consumers.
The UK’s headline activity measure is forecast to dip slightly from 57.2 in April to 57 while the headline eurozone activity index is expected to rebound slightly from 57 to 57.2.
The US Institute of Supply Management non-manufacturing survey for May, also due tomorrow, is expected to ease from 56 in April to 55, due to continuing weakness in housing-related sectors.
Wednesday brings German factory orders for April with year-on-year growth expected to slow from 13.8 per cent in March to 10.8 per cent. German business sentiment remains strong and industrial production for April, due on Friday, is forecast to slow only modestly from 7.7 per cent in March to 6.6 per cent. Germany’s trade surplus is expected to shrink from €18.4bn in March to €15bn in April, also on Friday.
The US trade deficit for April, due on Friday, is expected to change little from $63.9bn in March, but petrol imports are expected to rise over the summer.
In the UK, the manufacturing sector’s performance is being weighed down by rising interest rates and a stronger pound. The consensus forecast for April, due on Friday is for a rise from 0.9 per cent year-on-year in March to 1.4 per cent. Industrial output will be buoyed by higher oil and gas production following the opening of the new Buzzard field in the North Sea with annual growth expected to rise from –0.2 per cent to 0.6 per cent.
Money markets are pricing UK rates to rise to 6 per cent by the end of the year and eurozone rates to hit 4.5 per cent. This is part of a significant global shift in interest rate expectations that extends into 2008.
Three months ago, money markets were pricing in rate cuts in 2008 for the US, UK, eurozone, Canada, Australia and New Zealand. But rates are now expected to fall only in the US and New Zealand.
Analysts at Goldman Sachs note that this repricing of interest rates has done little to dent the performance of “risky assets”, particularly equities, partly because the risks to growth from the meltdown in the US subprime mortgage market have diminished.
But further increases in bond yields would weaken the risk-reward balance for equities, particularly at a time when investors’ risk appetite has already risen to historic highs.