2Economic Research Global Data Watch September 14, 2018 JPMorgan Chase Bank NA Bruce Kasman(1-212) 834-5515 bruce.c.kasman@jpmorgan David Hensley(1-212) 834-5516 david.hensley@jpmorgan Joseph Lupton(1-212) 834-5735 joseph.p.lupton@jpmorgan US demand lift generates intra-regional EM divide. There is no doubt overall EM growth will be held back byrecessions in Turkey and Argentina as well as a broadtightening in financial conditions. But the USdemand en- gine should provide an important boost as its net trade con- tribution swings from positive in 1H18 to a projected 1% ardrag in 2H. If accompanied by stabilization in China’sgrowth, the combination of stronger external demand andstable traded goods prices should support growth in Asiantech exporters, global commodity producers, and Mexico.As a result, intra-EM performance should diverge consider- ably in the coming quarters.DM wage Phillips curve is alive and kicking While recent developments challenge our global growth fore- cast, they also support our view that the DM Phillips curvewill steepen. Amid steady labor market tightening, DM wageinflation languished for most of this expansion, remainingbelow 2% through the middle of last year. The past year hasdelivered a 2.5% increase. With labor markets continuing totighten and the average DM unemployment rate already be- low our estimate of NAIRU we expect wage inflation to riseto a 3% pace next year.We do not see this acceleration accompanied by a sustainedpickup in productivity growth, which we expect to rise at a1% pace ahead. As a result, a firming in labor bargainingpower should boost unit labor cost (ULC) growth. From 2011to 2016, DM ULC rose at a 1.2% ar (Figure 3). The recentgain in wage inflation has pushed ULC growth to 1.7%oyaand we believe that ULC will rise 2% in 2019.Labor costs are not the sole determinant of inflation but theirmovement higher has been associated with rising DM coreCPI inflation. This move should be welcome as DM inflationremains below central bank targets. However, this processalso points to the emergence of potential late cycle con- straints. As a wedge opens up between wage and productivitygains, profit margins come under pressure. The offset to thisthat could come from higher inflation likely will be limited byglobal pricing power constraints and the actions of centralbanks as core inflation moves to target levels and above. Euro area IP dip: Some signal, some noise Euro area activity data continue to disappoint and this weekwe revised down real GDP growth again. On the heels of amuch weaker-than-expected July IP report from Germany— which we fade as reflecting transitory regulatory disruptionsin the auto sector—this week’s news of weakness in Italian IPis harder to downplay and underscores the risks lingering inthe region’s most vulnerable members. While recognizing therisks, we maintain that the fundamental supports for the re- gion will reassert themselves. Following last year’s robust2.7% gain, there have been no obvious shocks large enough toprevent a continuation of the cyclical upswing—supported byexceptionally easy monetary policy, elevated levels of confi- dence, strong growth in the demand for credit, easing creditconditions, firming labor markets, and rising wages. Tradetensions have increased this year, but as far as the Euro area isconcerned, the impact thus far has been minimal. There hasbeen some turmoil in Italian financial markets due to doubtsabout the new government’s fiscal intentions, but this has notbeen sufficient to dampen either credit growth or sentiment inItaly.Japan navigates through natural disasters Alongside the Euro area, we revise down Japan’s current- quarter GDP growth to 0.5% from 1.5%, reflecting weakenedconsumer demand and production data in July. Even more sothan for the Euro area, we are not taking much signal fromthis sizable downgrade—attributing most of it to the naturaldisasters that have plagued Japan in recent months. Moreover,some of the softness owes to partial payback from a strong,upward-revised 13% capex surge in 2Q. Indeed, we complete- ly offset the 3Q downgrade by marking up the 4Q growthoutlook to 2.5% from 1.5%. Amid the noise, Japan still looksto be an economy expanding 1.3% this year—well above itspotential growth rate. The forecasted bounce-back in 4Q lookson track, as this week’s September survey of large firms sug- gested that the negative impact of natural disasters will beshort-lived. At the same time, strong profit growth is support- ing increased capital spending. Indeed, core private machineryorders jumped further in July even after a boomy capex gainin 2Q. Still, trade wars are a lingering risk, with US trade talksto pick up on September 21 and building to an Abe-Trumpmeeting on September 25.-1 0 1 2 3 1.0 1.2 1.4 1.6 1.8 2.0 00020406081012141618 %oya; both scales Figure 3: DM core CPI and unit labor cost Source: J.P. Morgan Core CPIULC 3Economic Research Global Data Watch September 14, 2018 JPMorgan Chase Bank NA Bruce Kasman(1-212) 834-5515 bruce.c.kasman@jpmorgan David Hensley(1-212) 834-5516 david.hensley@jpmorgan Joseph Lupton(1-212) 834-5735 joseph.p.lupton@jpmorgan CBRT action shifts focus to governmentTwo weeks ago, Argentina’s central bank moved to halt theplunge in the peso, hiking rates from 45% to 60%. Since thattime, expectations have built for Turkey’s central bank to actas well. The CBRT took strong action at this week’s meeting,hiking the one-week repo rate 625bp to 24% (Figure 4). Wethink the hike will help restore the CBRT’s credibility andhence prevent a further rise in inflation expectations. Nowthat the central bank has acted, the focus shifts to the govern- ment, which will announce its medium-term program onThursday. The government needs to and likely will show itscommitment to fiscal discipline, in our view. In this regard,the markets will want to see that the fiscal easing seen so farthis year gets reversed. It was encouraging to hear PresidentErdogan talking about austerity measures, shelving plans fornew investment and vowing to stabilize public-sector em- ployment. The economic growth target will be another keytest. A target of 2% or below would recognize the need for aphase of substantially below-trend growth and would be mar- ket positive.Further moves toward higher EM ratesNo other EM country has faced the same level of stress asArgentina and Turkey. Nonetheless, an increasing number ofEM central banks are taking action, either in response to mar- ket pressure or because of domestic fundamentals.The central bank of Russia hiked25bp to 7.50%this week, motivated by a significant risein CBR inflation forecastsrelated to ruble depreciation. The CBR’s messaging aboutthe policy outlook was fairly hawkish, leading us to expectanother 25bp hike in December. The CBR also decided toextend the pause in its FX reservesaccumulation programlinked to the budget rule. The absence of CBR interventionis worth about US$22bn on our estimatesand will help off- set potentialfurther capital outflows.South Africa’s sizable current account deficit and stock ofFX debt has made it a focus of market anxiety. Next week’sSARB policy meeting appears to be a close call. With theeconomy skirting a recession, our base case is for the MPCto keep rates steady at 6.5%. Yet, the deteriorating inflationoutlook, linked to the slide in the rand,will keeppressureon the MPC to tighten unless ZAR retracesthe 6.4% trade- weighted fallsince the July meeting.This week we incorporated two rate hikes in India beforeyear-end. Although headline inflation has declined since thelast policy review, inflation risks have increased meaning- fully due to the increase in global oil prices and the declinein the rupee. While rupee depreciation is necessary to helpshrink India’s 3% of GDP current account deficit, deprecia- tion expectations appear to have become entrenched in themarket. To try to break this spiral, the government has con- vened a high-level mee