Opinion on interest rates

Following the strong downturn in Q4-2008 and Q1-2009, GDP has reached its trough in the early summer 2009. Since then, the major economies all have witnessed moderately positive growth rates, but the recovery has been stronger in the USA than in the EMU, Switzerland and Japan. The main drivers of growth were government spending and exports, and notably in the US, the inventory cycle. This does not come as a surprise, since inventory levels had been reduced markedly during the crisis.

In the corporate sector, we see recovering sale figures and - due to extensive cost cutting programs during the recessions – buoyant profits. Despite this, economic activity is still far below the levels recorded before the crisis. Capacity utilization has improved somewhat, but remains nearly 10 percentage points below the respective long-term averages in both the EMU and the USA. Unemployment rates have risen significantly. After recording negative figures in November, consumer price inflation rates are again positive. This was clearly not due to consumption demand or capacity shortages, but rather a consequence of the developments in the commodity prices, particularly the oil price. Because of a strong decline in the autumn of 2008 and a recovery throughout 2009, the oil price was - at the end of November 2009 - 50% higher than one year earlier. Whereas - on a year-on-year comparison – the oil price had actually declined in September and October 2009.

Especially in the first half of 2010, GDP growth will continue to be supported by the inventory cycle and the ongoing economic stimulus packages. Similarly, monetary policy will remain expansive, although a certain tightening stance is expected. We thus expected moderate GDP growth in both the USA and the eurozone, but growth figures for the entire year should be higher in the US. In 2011, exports and investments should be the main drivers of GDP growth; no impulses should be expected from consumption and government spending. This is due to the high unemployment rates (consumption) and the necessity to reduce the high fiscal deficits (government spending).

As a consequence, growth rates in the major economies, especially in the eurozone, will hardly come close to their long-run averages. Inflationary and disinflationary tendencies still seem to be balanced this year. We thus expect only a cautious monetary tightening. As suggested in our last issue - and as confirmed in the meantime by the European Central Bank – the tightening stance will first relate to the “extraordinary measures” introduced during the crisis. The last 6-months tender is scheduled for March, and the significantly more important 12-months tender maturing in June will not be renewed. Refinancing will thus face a significantly tighter market environment and we expect the 3-months euribor to increase by 30 to 40 basis points in the first half of the year and by a total of 60 basis points until year end. The long end of the yield curve will also see higher rates, which is due to the above-mentioned high financing needs of sovereign issuers. Total borrowing by EMU countries is estimated to increase by approx. 3.7% vis-à-vis 2009, a year that also had seen uncommonly high public borrowing. Clearly, this will continue to have an adverse impact on the weaker issuers among the eurozone members. However, as we do not anticipate a strong economic upturn, the upward potential for European government bond yields is still limited.

Higher growth in the USA – and diverging growth figures and rating issues in some eurozone members – have supported the dollar in recent weeks.

Stronger growth in the USA should lead to a faster and more pronounced monetary tightening cycle there than in the EMU. As a consequence, we expect an appreciation of the dollar in the second half of the year.

Since the Fed will keep interest rates low in the first half of the year, the dollar should, however, weaken in the months ahead before finally being replaced as a major refinancing currency by the Japanese yen and Swiss franc in the second half of the year.

Forecast results:
Interst rates and yields:

USA	26.01.10	Mar.10	Jun.10	Dec.10
Base rate	0 - 0.25	0 - 0.25	0 - 0.25	1.00
3m interbank	0.25	0.40	0.50	1.30
10y government	3.58	3.80	4.00	4.40

Eurozone	26.01.10	Mar.10	Jun.10	Dec.10
Base rate	1.00	1.00	1.00	1.00
3m interbank	0.67	0.75	1.05	1.30
10y government	3.21	3.40	3.50	3.90

Switzerland	26.01.10	Mar.10	Jun.10	Dec.10
Base rate	0.00 - 0.75	0.00 - 0.75	0.00 - 0.75	0.00 - 1.00
3m interbank	0.25	0.25	0.30	0.50
10y government	2.02	2.40	2.50	2.90

Japan	26.01.10	Mar.10	Jun.10	Dec.10
Base rate	0.10	0.10	0.10	0.10
3m interbank	0.25	0.50	0.60	0.60
10y government	1.33	1.55	1.70	2.10

Currencies:

	26.01.10	Mar.10	Jun.10	Dec.10
USD/EUR	1.41	1.44	1.43	1.40
CHF/EUR	1.47	1.48	1.49	1.50
JPY/EUR	126.61	129.60	131.56	134.40
JPY/USD	88.75	90.00	92.00	96.00

Interest Rate and FX Perspectives, 1Q 2010: download (pdf, 70 KB)