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Javier Milei’s Next Steps

Huge tasks ahead for Argentina's new president, BoE meet market expectations, and ECB also keep rates unchanged.

Argentina’s new president has got his feet under the table quickly, after being sworn in last weekend. Javier Milei has got a huge task on his hands to stabilise the tailspin that the economy and the currency is in and is delivering on his shock and awe treatment, whilst stressing “there is no possible alternative to the adjustment, there is no money”.

The plans vary in scale – from big to huge – from eliminating government subsidies in energy and (a significant move, given that a train fare in Buenos Aires is currently 9 cents and without subsidy would rise to $1.38), cancelling any planned and ‘approved but not yet started’ infrastructure projects – amazingly almost half a million public sector workers are employed in infrastructure projects. The number of state ministries has been cut in half and the public sector workforce is set to shrink by a third. The big one though is the devaluation of the currency, where Milei has announced that a value reduction of more than 50% from around 390 to the dollar to 800 to the dollar. The move is designed to narrow the gap between the

official rate and parallel markets, where the currency often trades in excess of a thousand pesos per dollar. The move should also stimulate growth in export markets and also, with imports now twice as expensive, likely stimulate local production.

The IMF have welcomed the move – but they’ve bailed out he country 22 times before, so at this point they’d probably take any change over more of the same – but what is not clear is how international creditors, with US Dollar denominated loans to the country are going to react as it’s now effectively become twice as hard for them to be repaid. The other thing to mention is that Mr Milei is doing this with minority voting rights in parliaments, so is having to navigate strong opposition with the hope that public support is strong enough to convince opponents to fall in line. With 40% of the population below the poverty line, something needs to change and it feels almost macabre to say that this will be fascinating to watch when the stakes are so high.

BoE Hold But Hawkish Undertones Support Sterling

Yesterday, the Bank of England met market expectations in holding their benchmark policy rate at 5.25%, marking the third consecutive time. This third hold came as six MPC members voted to maintain hold, while three members voted to raise rates 25bps. Here, the three MPC members which opted for further monetary tightening cited persistent inflationary pressures as well as a labour market which continues to be historically tight.

The decision to hold again comes on the back end of the fourteen rate hikes seen since the Bank of England started their latest tightening cycle in Q4 2021.

Though the market consensus points to this 5.25% level being the Bank’s terminal rate, Threadneedle Street continued to reiterate that another hike is not off the table. For example, they stated that “further tightening in monetary policy would be required if there were evidence of more persistent inflationary pressures.” The BoE also indicated that that monetary policy would need to be restrictive for some time to ensure conditions would allow for inflation to get back down to their 2% target rate.

Sterling was therefore supported by these hawkish undertones with money markets implying that the first rate cut is now fully priced in in June. Prior to the monetary policy meeting yesterday, a rate cut had been priced in for the bank’s meeting in May.

ECB Hold

Just 75 minutes after the Bank of England’s hold, the ECB also met market expectations in keeping rates unchanged. This represented the second hold since Frankfurt began their tightening cycle in July 2022 (a cycle which constituted 10-consecutive rate hikes), though the central bank’s governor maintained that there remains “work to be done”.

With markets looking to gain some insight into when the ECB may cut rates, President Lagarde reiterated that policy makers were not in a position to discuss future monetary loosening. Nonetheless, markets are pointing to a rare cut in March. This comes well before markets are pricing in a rate cut from the Bank of England (detailed above), and against a market view that there is around a 75% chance that the Fed will cut rates in March. Pushing back against expectations of cuts, Lagarde, did say however that “between hike and cut there is a whole plateau, a whole beach of hold”.

Their decision keeps the ECB’s main refinancing operations rate at 4.5% (a 22-year high), marginal lending facility at 4.75% and deposit facility at 4%. Similarly to the Fed and BoE, markets see the ECB’s current position as their terminal rate.

Like their counterparts in the BoE’s monetary policy committee, ECB policy makers maintained that they would keep rates sufficiently high for as long as is needed to bring inflation down to their 2% target. Presently, the ECB are projecting that inflation will fall from an average of 5% in  2023, to 2.7% next year – only falling to within reach of their target at 2.1% by 2026.

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