Speaker 1
Let's get to the big story breakdown. Financial markets digesting a whirlwind week of central bank decisions from the Federal Reserve's first rate hike in three years to policy actions in Tokyo as well as London now ING. Now expecting both the Fed Reserve and the ECB to deliver decisive rate hikes in December.
Now this week the Fed taking a hawkish tone against sticky inflation as investors are reevaluating growth projections as well as political headwinds ahead of the US midterms. Well joining us live this morning here at the New York Stock Exchange to break down the fresh forecast is James Knightley chief international economist at ING.
James happy Friday. What a week it's been.
Speaker 2
It has. It's been a busy one, a busy yes.
Speaker 1
Indeed. So not only are we hearing more hawkish comments out from the Fed, but we also got the BOJ overnight and also the BOE. And we all know with what we have to deal with on a macro level all central banks are keeping an eye on inflation. But give us your forecasts as we head into the rest of the year.
Speaker 2
Yeah, no, it's been a really interesting sort of two week period because we had the ECB the week before also hiking rates. So we've got an environment now where the data itself is not not terrible. It's converging on a 2% inflation target and a reasonable growth backdrop. But it just seems as though central bankers are looking quite nervously at what's going on in the oil markets and the gas markets and just saying, well, actually, we've just got to be mindful that the economy is growing quite nicely, and we've just got to sort of tamp down a little bit on that and just sort of rein things in a little bit, just to make sure that we keep on the path to 2%.
So I suggest that this is more of a recalibration rather than the start of a series of rate hikes from here.
Speaker 1
Yeah. And you bring up an important point, because there is so much anticipation heading into Wednesday's rate announcement, as well as that press conference from Fed Chair Kevin Warsh. And now that we are past these rate announcements, the outlook is on the rest of 2026. And as you mentioned, geopolitics play a key factor here.
But given the fact that we just heard from the BOJ and right now we are looking at dollar yen right below the 158 level. What is your assessment of the BOJ?
Speaker 2
Yeah. So the Bank of Japan everyone is expecting this rate hike that we got overnight. But I think it was the conviction. Didn't feel there that they take this further because we had a 7 to 2 vote. So two of the members most recently appointed by Prime Minister Takeshi. They opposed the hike. And this is sort of sense of this, a bit of a politicization within the Bank of Japan.
This is the story we had about Kevin Warsh at the Fed a few months back as well. And so there's that creating that nervousness that Japan Bank of Japan may not do what is necessarily the market's mind to try and just keep the economy in check. And we can see that with the yen, I mean, the yen pushing dollar yen pushing sharply higher on the back of that uncertainty about whether the Bank of Japan will carry through enough.
Speaker 1
And we're also paying attention to the ECB as well as the BOE. On the heels of their rate announcements as well. So what is your forecast for the currency pairs?
Speaker 2
Yes. So the ECB has already raised rates twice. And we're looking for a third hike in December matching what we're expecting from the Fed in December as well. Now in terms of the currency we see three real drivers. One is that rate differential. And right now we see the US European rate differential actually staying pretty stable.
So that's been fairly neutral for the currency. Secondly it's oil prices. Now if we can get oil prices subsiding that's really good news for Europe because while we're paying more for oil here in the United States, they've got that issue in Europe. But also they've got real supply problems. They've got concerns about the physical delivery of this stuff, as we heard from Saudi Aramco overnight.
So Europe is much more vulnerable. So we can get an easing of conditions there that's going to help euro dollar rise. And then thirdly of course we've got I guess risk appetites. And you know I think there is a little bit of a lingering concern about what happens in risk prices. You know, the equity the valuation story and if that was to resurface.
That could also be a catalyst for a higher euro dollar. So in the near term we think quite quite stable on euro dollar around 114115. But we still target a move towards 116 and then 118 for next year.
Speaker 1
And of course I do want to get your perspective on what we're seeing across the global bond markets and in particular treasury yields. So in New York morning trade we're looking at the US Treasury yield. The ten year hovering right below the 5% level. And we saw two straight days earlier this week were that ten year yield close above that 5%.
And with the exception of the Japan ten year we are looking at elevated levels once again. So what is both the short end and the long end telling you?
Speaker 2
Yeah, well, I think I think the long end is where we're more concerned because that's really pushed up, that's pushing up mortgage rates above 7% here. It's pushing up corporate borrowing costs. So that really does act as an economic brake on growth. So for me what's going to happen at the long end. And unfortunately you know well on one hand, you can disaggregate it.
The inflation side of things doesn't look too bad. Inflation expectations within the market remain of control. This is a real yield story. This is a debt dynamics problem. And you know when we're running a primary deficit of 2.6% of GDP that that excludes the interest costs. That's just your departmental spending exceeding your tax revenue by 2.6% of GDP.
To get the debt to GDP ratio just to stay flat. You need the economy to grow 2.6%, which points faster than your borrowing costs. Now, if we're borrowing at 4.5%, we need to growth of more than 7% just to keep that debt to GDP ratio stable. So those debt dynamics look absolutely awful. And that just to my mind just keeps that upward pressure.
And I think we'll be breaking above 5% heading towards five and a quarter on the ten year unfortunately.
Speaker 1
And finally, James, before I let you go in terms of what all of this means for the US currency, as we wrap up Q3 and head into Q4 of this year, give us your base case as well as bear and bull case for the US currency.
Speaker 2
Yeah. So normally we do see a bit of dollar softness as we head into the fourth quarter. Is balance sheet adjustments ahead of year end and tax payments come through. But you know, in an environment where the market is looking at the Fed and seeing rate hikes coming through in a hawkish nest there and a sense the economy is still doing pretty well, that could actually help to mitigate that.
So on the bearish case you know it would be or would be those flows that flow argument coming through that would push the dollar weaker. But actually in the near term, the bull case is really that the Fed remains hawkish. And we could see an October hike as well as a December hike. If they were to do that, that would keep the dollar much firmer.
We'd be breaking down towards 113 probably.
Speaker 1
Well, James, always appreciate your time. Thank you so much for joining us. And thank you so much for sharing your insights, especially into the central bank forecast. Thanks so much. Thank you.
