Unacceptably high core price dynamics will lend a helping hand to ECB officials pushing for a hawkish line
The most likely outcome to this week's inflation releases, still unacceptably high core price dynamics, will lend a helping hand to ECB officials pushing for a hawkish line.
Warnings that hikes may have to continue until September will stand a better chance of pushing longer term rates higher even if a subdued economic outlook, and growing doubts about the strength of China's post Covid recovery, should prevent European rates from rising as quickly as their US peers in the coming weeks. Wider USD-EUR rates differentials should only be a temporary development, however, and one resulting from a rise in global rates.
Market participants who, like us, expect lower rates into year-end, should also consider the possibility of US rates falling faster than their European peers, perhaps to sub-100bp levels for 10Y Treasury-Bund spreads.
This is all the more true since European markets have to contend with another dollop of political uncertainty in the form of early Spanish general elections on 23 July. The prime minister called for a vote after local elections defeat at the weekend and the opposition party PP is on the front foot, although it would likely rely on a coalition with another party due to the fragmented nature of the Spanish political landscape.
Spain’s still wide budget deficit (the European commission forecasts 4.1% of GDP this year and 3.3% next) mean a period of uncertainty is an unwelcome development and could lead to underperformance of Spanish government bonds vs peers such as Portugal and Italy.
Early elections mean Spanish bonds are at risk of underperformance vs Italy and Portugal
Today's events and market view
Spain kicks off this week’s inflation releases. This will come on top of Eurozone monetary aggregate data and the European Commission’s confidence indicators for the month of May. One theme in European macro releases has been the softening of survey-based data, such as Germany’s Ifo (see above).
US releases feature house prices, the conference board’s consumer confidence, and the Dallas Fed manufacturing activity index.
Bond supply will take the form of Italian 5Y, 10Y fixed rate bonds, as well as 5Y floating rate bonds.
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