Early Morning Call: IMF warns price stability should take precedence over financial stability

Equity market overview

Equity markets traded mostly higher in the Asia-Pacific region on Wednesday following a mixed session in the US.

Japan stocks outperformed the region, with the Nikkei 225 closing 0.62% higher. Producer price index in the world’s third largest economy remained flat in March month-on-month (MoM) and rose 7.2% from a year earlier. It follows an 8.3% increase in February.

IMF

The International Monetary Fund (IMF) adjusted its world growth forecast for 2023 as it warned that the financial system is not out of the woods yet and could still result in a new crisis.

The IMF forecast real GDP growth of 2.8% in 2023 and 3.0% in 2024, one tenth of a percentage point lower than it forecast in January for each year. In 2022, the economy grew by 3.4%.

This adjustment reflects weaker performances expected in Japan, Germany, India and Brazil. As for the UK, the IMF expects a shallower contraction but says the UK will remain the worst-performing economy in G7 with a contraction of 0.3% this year before a 1% rebound in 2024.

The IMF also urged member countries to keep tightening monetary policy to fight persistently high inflation. According to Pierre-Olivier Gourinchas, the IMF chief economist, inflation is still the bigger problem. Price stability should be prioritised over financial stability risks for central banks' monetary policy.

Asked whether continued rate hikes were creating bigger stability risks, Gourinchas' assessment was a firm "no". "The financial instability looks very much contained." Adjusting monetary policy now based on stability risks means that "we are not doing enough on the inflation front and that is creating a problem of its own."

Inflation

Inflation is very much what the market is now focused on. This afternoon at 1.30 pm, the US consumer price index (CPI) rise is expected to slow to 5.2% in March year-on-year (YoY), after a 6% rise in February. But Core CPI is forecast to accelerate to 5.6%, a tenth of a percentage point more than the previous month.

A bit later at 3pm, the Bank of Canada (BoC) will publish the conclusion of its monetary policy meeting. Economists anticipate the status quo to remain here. The overnight rate should stay at 4.5% as it has been since January.

At its last meeting in March, the BoC stated that it should continue to hold the rate at the current level should economic conditions develop broadly in line with expectations. The Bank of Canada was the first of the major economies to pause its tightening cycle.

Fed minutes from the March meeting are due to be released at 7pm. Traders will look through it for clues on the monetary path of the central bank as well as the impact of the banking stresses in March.

The turmoil in the banking sector had led some to expect that the Federal Reserve may need to cut interest rates to alleviate some of the stress in the market, but a sticky inflationary environment is unlikely to give the Fed much room.