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Daily analysis 01.07.2016

1 Jul 2016 13:33|Marcin Lipka

The Bank of England is preparing for the monetary easing. The zloty returned to the area of 4.40 per euro before noon. Uncertainty regarding retirement age is most likely to be solved during the government meeting on Tuesday.

Most important macro data (CET – Central European Time). Estimations of macro data are based on Bloomberg information, unless marked otherwise.

  • 16.00: ISM readings for the American industry (estimations: 51.3 points).

Bank of England is suggesting monetary easing

Mark Carney dominated yesterday's afternoon with his testimony. The Bank of England chairman focused on the elements of uncertainty for the economy. They can be divided into elements related to geopolitics, economy and a broadly understood institutional uncertainty. This testimony left no doubt that Brexit is negative for the United Kingdom. Moreover, a significant part of the current uncertainty is the result of political actions.

However, the Bank of England has a plan to, “support the growth, employment and wages during the period of a clear uncertainty.” Even though the monetary policy is not capable of reducing every current economic tensions, we may expect a significant easing of the monetary conditions.

It is indicated by instruments that simulate the behavior of future interest rates, as well as profitability of the UK treasury bonds. The market is estimating a cutting at the 25 pbs level, to 0.25%. It is anticipated for the meeting that is planned in the mid-July. The base case interest rate is expected to be within the range of 0.00% - 0.25% by the end of 2017.

The same conclusions can be drawn from the behavior of the UK two-year treasury bonds. At a certain point, their profitability decreased to 0.05%. This was basically a repetition of the lowest level in history, that was quoted in the second half of 2012. At that time, Europe was dealing with the debt crisis.

It is worth noting that a low profitability as this, is not a positive news. This means that the future inflation will be clearly below the target. This will equal a low economic growth, as well as a low increase in salaries. The latter will be caused by a lower level of investments, as well as of productivity. Of course, there is a worse scenario for the United Kingdom – a high inflation and the lack of growth. This would increase the cost of financing the country's debt, as well as make the stabilization of economic situation even more difficult. However, this scenario is too pessimistic for the time being, even if we consider that the economic relations between London and Brussels are based on the general WTO regulations. It seems that the above mentioned scenario might only appear if the UK breakdown becomes real.

In conclusion, the monetary easing will most likely be a serious obstacle for a rebound on the recently weakened pound. On the other hand, strong conflicts within the Conservative Party, as well as the Labor Party, may suggest many sudden turns before the situation becomes stable, and stops its negative impact on investments, as well as consumption. Moreover, it does not seem that the negotiations between London and Brussels will be short and simple as well. If we combine these elements, we may expect the pound to increase its recent pits. It is possible as well that the British currency will end its depreciation against the dollar within the range of 1.20-1.25.

Retirement age and PMI

We were dealing with a visible consolidation of the Polish currency yesterday afternoon. Moreover, the zloty strengthened not only against the euro and the dollar, but against the forint as well. Thus, a higher evaluation of the PLN was not only caused by external elements (growths in the American stock markets). There must have been a positive information from Poland as well.

Consolidation of the zloty coincided with a finish of the Standing Committee of Council of Ministers (SCCM). The discussion regarded the return to the previous level of retirement age (60 years for women, 65 years for men). For a long time the ministry of finance has been claiming that a lower retirement age needs to be combined with a particular contribution period (35 years for women, 40 years for men).

Otherwise, as it is said in the Convergence Program from April, the additional costs for the budget in the following three years would be 8.6, 10.2 and 11.9 billion PLN, respectively. However, the announcement from the SCCM meeting is not unambiguous. On one hand, it suggests a positive opinion for the presidential project (without the age condition). On the other hand, it repeats the remarks from the minister of finance.

As a result, perhaps the market interpreted this announcement as the government's attempt to withdraw from electoral promise. On the other hand, today's interview with Henryk Kowalczyk for the Polish Radio suggests that the SCCM accepted the presidential project without the practice requirements.

If this actually is true, we may assume that the Polish rating will be yet again under pressure. It is possible that the Fitch agency will downgrade the perspective in the mid-July. This is because the above mentioned resolution would exceed the base case scenario for the deficit, that was assumed by the agency in January. On the other hand, Moody's could downgrade the rating in September, because the matter of retirement age has been mentioned as one of the elements of its direct reduction in May.

The final decision regarding the modification of pension system is to be made during the government meeting on Tuesday. However, if it is decreased unconditionally, it will increase significantly the risk of downgrade of Poland's loan credibility in our opinion. This would increase pressure on the PLN in the long-term.

Regarding positive information, it is worth noting today's PMI publication. According to Markit, index that defines the future condition of the Polish industry decreased slightly (from 52.1 to 51.8 points). However, its tone was positive. Production, as well as new orders, were growing at the fastest pace in three months. This concerns the national, as well as the foreign orders. Moreover, Markit wrote that the pace of employment was fast as well. Of course, the surveys do not include the Brexit period. Thus, the data from the next month will be significant in this context as well.

1 Jul 2016 13:33|Marcin Lipka

This commentary is not a recommendation within the meaning of Regulation of the Minister of Finance of 19 October 2005. It has been prepared for information purposes only and should not serve as a basis for making any investment decisions. Neither the author nor the publisher can be held liable for investment decisions made on the basis of information contained in this commentary. Copying or duplicating this report without acknowledgement of the source is prohibited.

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