Manufacturing is in retreat, threatening to take the global economy down with it

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If the world's factories are any measure, then the global economy is looking rather gloomy at the moment.

Key points: Global manufacturing output is at a three-year low, teetering on contraction

Around 17 central banks are expected to cut rates this quarter to combat the global slowdown

Expectations of a 50-basis-point cut from the US Federal Reserve this month have eased

In June, manufacturing output slipped to a three-year low. It is now teetering on contraction.

European output is already in reverse, and has been for some time, dragged down to a large extent by German factories which have been enduring recessionary conditions for much of the year.

As measures of economic health go, Purchasing Managers' Indexes (PMI) are pretty dependable.

The global PMI, collated by the big investment bank JP Morgan, found the falling June output pointed to manufacturing stalling mid-year.

Currently, JP Morgan's global composite PMI is holding just above 50 — the mark denoting economic expansion — while the forward-looking "new orders" PMI fell under 50 in May for the first time since 2012.

Part of it can be sheeted back to global trade hostilities, particularly between the US and China, and part of it is just a cyclical economic funk.

Slowdown driving rate cuts

Overall demand is sluggish and inventory stockpiles are not exactly flying off the shelves.

Drilling down into the data, the surveys suggest confidence is sliding and business investment is likely to stay weak for the foreseeable future.

All are regarded as harbingers of a downturn, not a rebound.

The advanced July PMIs start rolling out this week and are likely to have a big say in where interest rates are heading.

Well, they're heading down — but where, and by how much, are the big questions.

Markets are pricing around 17 central banks will cut rates this quarter. That is likely to include the Fed in the US later this month, the European Central Bank in September and quite possibly the RBA.

The South Korean, Indonesian and South African central banks got ahead of the pack and cut last week.

Things look a brighter on the home front, with JP Morgan's economists arguing households, globally speaking, are benefiting from solid wage and wealth gains (largely thanks to the expectation of further rate cuts), along with a lift in purchasing power from falling inflation.

Falling rates and rising growth unusual

Basically, it is very delicately balanced.

Investors are betting on having their cake and eating it too; interest rates falling and economic growth rising simultaneously.

Such a serendipitous mix is rare, but not unprecedented.

JP Morgan's chief global asset strategist John Normand says the last time the global economy witnessed this pairing was early 2016 when the Fed didn't actually cut rates, but eased conditions by removing three expected rate rises from its forecast.

"Aside from that episode, it is hard to identify another one in the past two decades," Mr Normand said.

Mr Normand argues it might return this time around thanks to the Fed's frustration with persistently sub-2 per cent core inflation.

In other words, the Fed would be comfortable with inflation overshooting its target, even as economy grows solidly.

It is not dissimilar to a strategy floated by ECB president Mario Draghi last month, a strategy likely to be supported by the incoming ECB president, and stimulus advocate, Christine Lagarde.

Mr Normand is not betting on rates being cut as the economy takes off, but note the chances of this blue-sky scenario better than simple history implies.

Markets ease

Friday saw markets edge back from uber-bullishness as the bets of a big 50 basis point cut from the Fed at the July 31 meeting were taken off the table.

On Thursday, the Fed's vice-chair and boss of the New York Fed John Williams comment about the need to "vaccinate the economy" was taken as a heads-up a big economic shot in the arm was its way.

"It's better to take preventative measures than to wait for disaster to unfold," Dr Williams told a gathering of economists. "Don't keep your powder dry."

With the Fed's self-imposed black-out on pre-meeting comment bearing down, the New York Fed pointed out the good doctor's musings were purely academic, and not specifically about the July meeting.

Needless to say, US President Donald Trump — a fierce advocate of cutting rates and driving the US dollar down — was far keener on the original interpretation than the subsequent clarification from the Fed.

The upshot saw the rate bulls neutered somewhat; Wall Street indices fell and bond yields rose. The ASX looks like following that lead down on Monday's opening.

Markets on Friday's close: ASX SPI 200 futures -0.4pc at 6,616, ASX 200 (Friday's close) +0.8pc at 6,700

AUD: 70.4 US cents, 62.7 euro cents, 56.3 British pence, 75.9 Japanese yen, $NZ1.04

US: Dow Jones -0.3pc at 27,154 S&P500 -0.6pc at 2,977 NASDAQ -0.7pc at 8,146

Europe: FTSE +0.2pc at 7,508 DAX +0.3pc at 12,260 EuroStoxx50 -0.1pc at 3,480

Commodities: Brent oil +0.9pc at $US62.47/barrel, Gold -1.5pc at $US1,425/ounce, Iron ore $US122/tonne

RBA to take a breather

The key local snippets from last week — the RBA July meeting minutes and the June jobs figures — point to the RBA taking a breather from its rate cutting binge

The unemployment rate appeared stable at 5.2 per cent, but actually edged up again, the impact muted by a favourable roll of the rounding dice.

Nonetheless as JP Morgan's local economists point out, unemployment has risen 0.3 percentage points since February, and is well above where the RBA forecast it would be.

"In both seasonally adjusted and trend terms, it is increasingly clear that the unemployment rate has troughed for the cycle," JP Morgan's Sally Auld said.

Ms Auld points out the interest rate cuts so far have all been about the RBA adjusting its estimate of full employment down to a jobless rate of 4.5 per cent, rather than a response to a weaker economy.

"For the RBA, the pressing issue will be how far it [unemployment] rises before rate cuts and fiscal stimulus stabilise the labour market."

Inflation targeting back on the agenda

However, that other key mandate in the RBA's remit — inflation — is likely to be the key issue for the week.

RBA governor Philip Lowe has framed a speech set down for Thursday on the touchy subject "Inflation Targeting and Economic Welfare".

Touchy because the RBA has missed its 2-to-3 per cent target for pretty well five years. The times it has been on target it just snuck in, grazing the 2 per cent post on the way.

Some have suggested, given the ongoing misses and the RBA's inability to adjust its aim, shifting the goal posts might be the go.

Dr Lowe is made of sterner stuff than that.

He will probably use the speech to stress the importance of "anchoring" inflation expectations, even if Australia's target is probably a bit higher than most developed economies and we live in a time when falling inflation seems more structural than cyclical.

Dr Lowe will not doubt stick to his guns that inflation will be back on target by mid next year.

US GDP

There are not a lot of other set economic pieces in the diary this week.

The ECB meets to discuss rates (Thursday), but the expectation is a cut in September.

The preliminary US second quarter GDP data is out (Friday). The expectation is a significant step down from 3.1 per cent growth to 1.5 per cent; it's still growing, but not with great vigour.

The US reporting season will be dominated by the big tech stocks; Alphabet (Google's parent company), Facebook, Amazon, Twitter, Snapchat and Trivago all drop quarterly results this week.

Australia

Date Event Comment Tuesday 23/7/2019 Consumer survey ANZ weekly survey, has been stronger than Westpac's monthly reading Wednesday 24/7/2019 Manufacturing & services surveys Jul: CBA "flash" PMIs, has shown a rebound in activity lately Quarterly update June quarter update from mineral sands miner, Iluka Thursday 25/7/2019 RBA speech Governor Philip Lowe discusses "Inflation Targeting and Economic Welfare" Quarterly update June quarter update from iron ore miner, Fortescue Macquarie Group AGM Macquarie generally doesn't provide forward guidance at AGMs, but likely report conditions are improving after soft start to the year Friday 26/7/2019 Resmed FY results Fourth quarter sales expected to be solid with the sleep apnoea business expecting a profit of around $US520m

Overseas

Date Event Comment Tuesday 23/7/2019 EU: Consumer confidence Jul: Pessimism abounds IMF economic update The International Monetary Fund releases its latest World Economic Outlook, and could wind down growth expectations yet again Wednesday 24/7/2019 EU: Manufacturing surveys Jul: Another month of contacting activity with the big worry being Germany's weakness US: Manufacturing survey Jul: PMI hovering just above contraction US: Mortgage applications Jul: Fell in June, another indicator of a softer housing market Thursday 25/7/2019 EU: ECB rates meeting No change expected here, but market has forecast a cut in deposit rate in September US: Durable goods orders Jun: A proxy for business investment. Fell in May Friday 26/7/2019 US: GDP Q2: First estimate expected to show GDP growth has slowed to 1.5pc from 3.1pc YOY US: Inflation Q2: The Fed's preferred PCE reading likely to be fairly weak again

Topics: business-economics-and-finance, industry, manufacturing, money-and-monetary-policy, australia