USA
In the midst of an unprecedented Fed policy response, Chairman Bernanke's testimony this week provides an opportunity for him to sketch out the Fed's likely actions in the coming months. It seems that the tone of his remarks will be similar to those of the June FOMC (Federal Open Market Committee) minutes. In the June minutes, the FOMC raised its growth and inflation forecasts for 2009 and 2010 (i.e. GDP 2009 growth from the -2.0 to -1.3 interval, to a -1.5 to -1.0 interval, and GDP 2010 from the 2.0 to 3.0 interval to a 2.1 to 3.3 interval).
Further, the Fed sees less downside risk to both sets of forecasts; in fact, most participants viewed the risks to these projections as roughly balanced, whereas in April most saw growth risks as skewed to the downside. This is important because it means that, although it raised its unemployment rate projections, the Fed has gained confidence in its forecast of a recovery. Little in the three weeks since the June meeting is likely to have reduced the Fed's confidence. Incoming data has also been broadly consistent with the Fed's somewhat more upbeat views. The decline in manufacturing production has lessened notably, and the FOMC and the Fed staff share a view that production and GDP growth will turn positive in H2 09.
Also, the first information on housing in July, the homebuilders' survey, edged up slightly, suggesting that the rise in mortgage rates over the past two months has not caused a deterioration in sales. Similarly, inflation figures have been on the firm side of late; over the past three months, the overall CPI has increased an annualized 3.3 percent and the core CPI 2.4 percent, a notable strengthening from the figures posted late in 2008 that had heightened deflation concerns among some FOMC members.
Euro zone
Euro area y/y inflation was confirmed to have been negative in June for the first time since the series began. While prices rose across the euro area (0.2 percent m/m), inflation rate was pulled down to -0.1 percent y/y, from 0.0 percent in May and 0.6 percent in April, driven by negative energy price inflation (which contributed -1.1 pp to the inflation rate). Energy price deflation will continue to drag down headline inflation until November by an average of -1.3 pp. Food price deflation will also drag down headline inflation by an average of 0.2 pp for the next year.
Therefore, it is appropriate to infer that the negative inflation rates forecasted throughout the summer do not represent a period of sustained deflation in the euro area, but rather the cyclical effects of the sharp movements in commodity prices in previous quarters. The ECB Governing Council has made it clear over recent months that negative inflation rates due to downward base effects are not a major concern. Following their July policy meeting, the ECB saw risks to inflation as "broadly balanced" to the downside based on economic activity, and to the upside based on commodity prices and indirect taxation/admin prices.
Central and Eastern Europe
The first official estimate from the Russian Ministry of the Economy showed a 10.1 percent y/y drop in GDP during H1 this year, underpinned by a fall in investment, an extreme depletion in inventories and a decline in private consumption expenditure. This week also saw the government revise down its official forecasts for 2009 significantly to -8.5 percent y/y, from the earlier estimate of -2.2 percent.
Although analysts still await the release of more real sector data to determine whether an adjustment to the forecasts is warranted, it seems that the Russian authorities' latest view on the economy may be too pessimistic. Industrial production (IP) data showed the first signs of a slowing in the pace of decline in economic activity, with the contraction in IP easing to 12.1 percent y/y in June following the 17.1 percent fall (the worst decline on record) in May.
The release of June unemployment, real wages, investment, retail sales and disposable income this week will shed further light on the state of the country's economy, where everyone will be looking for further evidence of a slowdown in economic deterioration. The strong rebound in oil prices in Q2 should provide a positive backdrop for growth in H2. And although a significant improvement is not expected, the pace of decline in activity should dampen in Q3 relative to Q2.
• Written using materials from Bloomberg and Reuters Research
