MNI: Eurozone To Urge Slightly More Fiscal Expansion - Sources

Eurozone finance ministers are set to declare that the single currency area’s appropriate fiscal stance should be "neutral to mildly expansionary" for the next budgeting round, versus “broadly neutral” for 2026, European Union officials told MNI.

In a statement to be issued after Thursday’s meeting in Brussels, which will set the tone for the autumn round of national 2027 draft budget plans, the Eurogroup will also cite the need for many countries to further boost spending on defence and infrastructure, while insisting on fiscal consolidation in high-debt countries, officials said.

At the meeting, ministers from so-called “frugal” states, as well as France, are likely to raise concerns about the European Commission proposal, which followed pressure from Italy, to allow slightly more flexibility in fiscal rules for energy spending.

It remains unclear whether even Italy will even apply for the additional flexibility, given that is conditional on extra spending’s being limited to 0.3% of GDP and included within the additional 1.5% leeway already granted for increasing defence spending, sources said.

 Italy has yet to apply for the National Escape Clause for defence, something it would need to do in order to qualify for any further flexibility on energy spending. 

The cease-fire in the Gulf and subsequent fall back in oil and gas prices have eased pressure on Italy to boost energy support measures, while the Commission has insisted that any additional spending must be confined to projects which boost Europe's long-term energy security rather than on short-term help for consumers and businesses. (See MNI SOURCES: Cheaper Oil Gives ECB Room Before Next Hike)

MNI: China's Budget Revenue Weak Despite Tax Receipt Increases

China's fiscal revenue is likely to remain under pressure in H2 despite a 4.4% increase in tax receipts during the first five months of the year, as underlying sources of revenue growth remain weak, with one-off factors driving much of the improvement, economists told MNI.

Dan Wang, China director at Eurasia Group, noted the recent crackdown on tax evasion had lifted personal income tax receipts by 12.2% and recovered some corporate tax revenue, but those gains are likely to prove temporary without a broader recovery in household incomes and domestic demand. China's industrial policy is increasingly focused on high-tech manufacturing and artificial intelligence, sectors that benefit from generous research and development tax deductions and preferential corporate income tax rates, Wang said.

"Compared with traditional industries, they contribute less in corporate tax," Wang added. While the shift represents a successful transition from old to new growth drivers, the emerging sectors generate less employment than the industries they replace. Beijing lacks a sustainable source of revenue growth despite a 4% increase in public budget revenues in the first five months, she argued.

Xu Tianchen, senior economist at Economist Intelligence Unit in Beijing, said this year's stronger tax revenue also reflects cyclical and structural factors rather than broad-based economic strength. Tax revenue is recorded in nominal terms and has benefited from China's gradual emergence from deflation during the first five months, he continued. Consumer prices have edged higher, while producer prices rose by nearly 4% in May, boosting value-added tax receipts.

However, Xu expects producer price inflation to moderate in the second half of the year in line with easing Iran tensions and lower oil prices, potentially slowing the pace of tax revenue growth. He also attributes the stronger revenue performance to tighter tax administration, including greater enforcement of taxes on overseas investment income.

EXPENDITURE

Spending slowed sharply during the second quarter as policymakers judged the economy to be performing broadly in line with expectations following April's Politburo meeting and stronger-than-expected 5.0% Q1 GDP growth, Xu said, pointing to the 0.8% y/y growth to national general public budget expenditure from January to May, a sharp fall from Q1's 4.9% growth. 

"I think they didn't feel a strong sense of urgency to provide additional stimulus," Xu noted, adding spending could accelerate again in the second half as authorities seek to prevent further slowing in growth.

Wang said authorities had shown little urgency to boost weak domestic demand given the relatively stable social conditions this year. Instead, policymakers were prioritising debt risk management, with interest payments rising 5.1% year on year from January to May, Wang added. 

The central government's approval process for infrastructure projects has become more stringent as officials adopt a more cautious approach ahead of the 21st Party Congress, Wang said, noting that expenditure on urban and rural community development, which includes public works such as roads and lighting, fell 2.5% year on year in the first five months.

At the same time, local officials seeking promotion have become increasingly reluctant to approve large-scale investment projects, she added.

BOND ISSUANCE

With underlying fiscal revenue likely to remain weak, Wang expects the central government to rely increasingly on sovereign bond issuance. "The central government still has considerable room to expand bond issuance," she said, arguing that China's bond market remains one of the country's strongest financial assets.

Falling land-sale revenue, down 28.7% year on year from January to May, has also increased local governments' reliance on bond financing, Xu explained. Repaying arrears owed to suppliers and small and medium-sized enterprises remains a priority for many local governments, he continued, with part of this year's bond quota specifically allocated for that purpose under the Government Work Report. Xu expects repayments to continue gradually through 2026, although not all outstanding arrears are likely to be cleared by year-end.

MNI INTERVIEW: US Services Sturdier As Iran Risks Recede - ISM

The U.S. services sector held up well in June and the expansion is set to continue as risks from the conflict in the Middle East recede and input cost growth moderates, Institute for Supply Management services chair Steve Miller told MNI Monday.

The ISM services index eased 0.5 percentage points in June to 54.0, meeting expectations. The composition of the report was mixed showing cooling demand, labor market growth for the first time in four months and softer price growth.

"It was lukewarm. And then as I looked into the report more it looks like all the numbers were directionally where we want them to be," Miller said in an interview. "I expect to see more of that with with oil prices dropping." He expects the PMI to remain in the mid-50s. 

All four PMI subcomponents expanded and moved above 12-month averages. The business activity index receded to 55.4 from 57.7, the new orders index fell to 55.1 from 57.3, and supplier deliveries eased to 54.4 from 55.2. The employment index rose to 51.2 from 47.9 and was the strongest since February. World Cup-related hiring in the U.S. likely contributed to the increase.

The price index fell to 67.7 from 71.3, the first time below 70 since February. The report noted price increases of base metals, products in high demand from the AI boom, and some construction materials. Commodities in short supply included electronics and components, memory chips, software licenses and labor. 

HEALTHY GROWTH

The growth outlook looks steadier as Iran risks recede and Miller expected continued growth. "We're in a really healthy place right now, from a growth perspective," he said. 

High inflation should improve in the second half of the year Miller said, pointing to ISM input prices. Miller also said he expects the Federal Reserve to remain on hold for the foreseeable future. (See: MNI INTERVIEW: Fed Will Be On Hold As Oil Shock Unwinds- Levy) 

"I think it'll be in the mid 60s at least for the next couple of months," he said about the prices index. "I don't think it comes down to where it was in the in the 50s in 2024 but maybe low 60s" by the fall, he said.

"There's still some pressure from tariffs and petroleum-related products," he said. "You might have monthly fuel surcharges from some of the transportation carriers. So they're still seeing up in June, but I expect to see a real break in July."

MNI INTERVIEW: UK Fiscal Rules Allow Loan Lift- ex-OBR's King

The UK government can find room to boost investment and lending within the fiscal rules, but it will be challenging to do this on a large scale, former Office for Budget Responsibility steering committee member of the Andy King told MNI.

Two options under consideration by policymakers ahead of July 20, when Andy Burnham is set to replace Prime Minister Keir Starmer, are to beef up NISTA, an agency which scrutinises major infrastructure and service projects, and to bring in private sector funding for governmental bodies like the British Business Bank. King, a partner at Flint Global, said announcements were possible in the autumn budget but getting money out of the door takes time.

"To get from proposal to announcement. I think it's plausible to think that could be done in time for an autumn budget. To get from announcement to implementation, I think that's probably the more challenging thing," King said in an interview.

"Lending at scale just takes time to implement. The real world doesn't move that fast. You can't just magic up multi-billion pound good value projects," he added. "It's not that there are good options on the shelf that they're not using. My impression is that they're doing everything they can, but they're starting from a very low base.”

FAST-TRACKING INVESTMENT

One of the plans being looked at, proposed by former Treasury minister and Goldman Sachs official Jim O'Neill, is to use NISTA, the national infrastructure authority, "in a way that would free up more scope to invest in projects that have high returns ... a micro project-by-project way of saying, 'look, if this project is good for the economy, it can go ahead,’” King said.

While under the Public Sector Net Financial Liabilities (PSNFL) measure adopted for the debt-to-GDP target in October 2024 official loans can be netted out on the state’s balance sheet against the public spending they finance, in practice the Treasury was wary of allowing unlimited fiscal risk and restricted such activity to named entities like the National Wealth Fund, the British Business Bank, The Housing Bank, King said. (See MNI INTERVIEW: Little Scope For Further UK Fiscal Loosening)

This makes for slow going, he noted. The National Wealth Fund "has essentially been now implementing as fast as it can, getting money out the door as fast as it can, but obviously it has to do due diligence on each deal," King said. Its lending is "in the low single digit-billions a year, which is, real money, but it's still about 0.1, 0.2% of GDP, so it's not going to totally change the economy."

To use PSNFL more extensively they "probably have to relax some of these other constraints particularly the additionality one, the one that says don't lend to something where the private sector could have loaned them the money anyway. That test is quite challenging.”

Under O’Neill’s proposal, NISTA would be able to either accredit that a project is real rather than financial investment, and that therefore it should not count against the fiscal target, or else to certify that loans which fund it should be netted out on the government’s books under the PSNFL measure, King said.

The constraint is that "in both of those options, if you do more lending or you do more infrastructure investment, you have to issue the gilts to finance it," King said.

PRIVATE SECTOR 

Another idea, from former top Treasury official and now Barclays Chairman John Kingman together with investment houses and pension companies, would be to allow development corporations to borrow from the private sector rather than be funded by gilts, King said, which would enable them to sit outside the fiscal targets. (See MNI INTERVIEW: Gilt Spikes Make Case To Slow QT - NIESR Head)

That goes "beyond PSNFL, and we'll say 'this is real investment in real assets, and therefore it is public spending, but we will set that outside the fiscal targets, because it's clearly investment with high economic returns'," King said.

Of the two he said that the O'Neill proposal "sounds more all-encompassing" but appears not to be as far down the development track as the Kingman one.

MNI RBNZ WATCH: Hikes Considered, But Not Certain

While the Reserve Bank of New Zealand's Monetary Policy Committee will consider raising the 2.25% official cash rate when it meets next Wednesday, the decision may be less certain than rates markets imply.

RBNZ-dated overnight index swaps suggest a 76% chance of a hike, but most economists and former central bank staff interviewed by MNI believe the probability is much lower, citing manageable core inflation, a weak economy, a sizeable output gap and a lack of solid economic data. 

A hike next week, following May's decision to hold rates alongside a fresh set of forecasts, would also complicate the Bank's communications after the MPC's last three-three split vote. (See MNI RBNZ WATCH: Gov Breman Says Hike Incoming After Hold Vote) The three external members voted for a hike largely due to oil price-related inflation concerns, which have eased over the past six weeks.

While most former staff agree with the MPC members that further rate increases will be needed, they expect the Bank to make a case for keeping the OCR unchanged until it can assess Q2 inflation data due on July 21, while retaining the tightening bias it communicated at the last meeting.

The Bank has held the OCR at 2.25% since its last 25 basis-point cut in November 2025.

DATA DEFICIT

Relatively little economic data has been released since the May meeting, and what has emerged has provided little evidence of stronger inflationary pressures or a tighter labour market. Lower oil prices are also likely to ease inflationary pressure.

Key releases, including the Quarterly Survey of Business Opinion and the June-quarter CPI, will both be published after next week's meeting, while Q2 labour market data is not due until August.

The Bank will also publish its household inflation expectations in August ahead of the Sept 2 meeting. 

Q1 GDP was the most significant release since the May meeting and printed broadly in line with the Bank's forecasts, growing 0.8% q/q. 

HIKE CASE

While the case for holding rates is strong, some argue the Bank should move more quickly toward its estimated 3% neutral rate to guard against further global uncertainty.

"When you look at core inflation, it's around 2.5% to 3%, you've got an economy that's turning, and productivity growth is awful," Cameron Bagrie told MNI last month. (See MNI: RBNZ Hike Uncertain As Recovery Gathers Pace) "You don't have the capacity to absorb much of a pickup in demand before you start running into capacity constraints."

Labour market conditions have improved slightly and New Zealand's limited supply-side capacity mean even moderate GDP growth would quickly absorb spare capacity, he argued.  "The phrase I'm using in New Zealand at the moment is that we're entering a period of 'broccoli and spinach'. Not everybody likes broccoli and spinach, but it tends to be good for you. Let's just get the OCR around neutral. That's a comfortable level to have it when you've got all this uncertainty."

Governor Anna Breman's comments during May's press conference that the OCR would likely need to rise at coming meetings have also been interpreted by markets as signalling a move in July, according to Justin Fabo, founder of Antipodean Macro. While Fabo sees a clearer case for hikes later in the year, he gives an increase next week a 40-60% chance.

MNI INTERVIEW: Ex-BOJ's Kameda- Sept Or Oct Hike If Yen 165

The Bank of Japan is likely to raise its 1% policy rate again by December, with a weaker yen approaching JPY165 prompting an earlier move in either September or October, depending on economic conditions and the government's stance, former BOJ chief economist Seisaku Kameda told MNI.

"If the dollar moves close to JPY165, Japanese authorities are likely to conduct foreign exchange intervention, which would push the yen back to around JPY162-JPY163. But if the yen subsequently weakens back toward JPY165, it could accelerate the timing of the next rate hike," said Kameda, now executive economist at Sompo Institute Plus, noting a weaker yen could bring forward the next rate hike to either September or October. 

“When I was asked about the rate hike timing now, the high probability is October. But there is the possibility in December, depending on developments of economy and coordination with the government,” he said, noting a series of consecutive hikes is highly unlikely.

Kameda said the broader trend of yen weakness is likely to continue, although the currency could strengthen modestly if expectations for further U.S. Federal Reserve tightening ease, pointing to Fed Chairman Kevin Warsh's comments Wednesday that risks of higher inflation had receded, potentially reducing the urgency for interest rate increases.

However, he said the BOJ tends to lag behind the curve and the wide interest rate differential between the U.S. and Japan will continue to weigh on the yen.

He also warned the BOJ could not afford to ignore inflation expectations even though crude oil prices have fallen following the U.S.-Iran peace deal. "The Tankan clearly showed that firms continue to pass higher costs on to selling prices, highlighting upside risks to inflation. The decline in crude oil prices is good news, but the BOJ cannot let its guard down against the risk of falling behind the curve."

Kameda had expected swifter action from the Bank in April to combat rising inflation expectations. (See MNI INTERVIEW: Ex-BOJ's Kameda Sees April Hike)

GOVERNMENT INFLUENCE

Kameda said further BOJ hikes were appropriate given persistent upside risks to prices, as policymakers remain focused on underlying inflation. However, he added the BOJ's assessment that the risk of a significant economic slowdown has diminished compared with a while ago is intended to persuade the government to accept further rate hikes. "Looking ahead, the BOJ will continue to emphasise that the economy is unlikely to deteriorate sharply when it raises the policy rate in order to fend off government criticism," he said.

Regarding the July Outlook Report, Kameda noted he will watch whether the BOJ lowers its forecast for core-core CPI and if it maintains concerns about falling behind the curve despite lower crude oil prices.

"The decline in crude oil prices has been somewhat faster than the BOJ assumed in the baseline scenario of its April Outlook Report. On the other hand, the continued weakness of the yen is adding upward pressure to prices. The combination of these positive and negative factors makes it difficult to predict the core-core CPI forecast."

While the BOJ does not define underlying inflation as CPI excluding fresh food, energy and institutional factors, Kameda said this measure is the most important indicator for assessing the risk that underlying inflation overshoots the bank's 2% target.

"The BOJ is always paying close attention to the risk that the economy deteriorates sharply following a rate hike," Kameda said, adding that policymakers must assess whether private consumption loses momentum in the coming months as the impact of firms' price pass-through becomes more fully reflected in consumer prices. The full impact of firms' price pass-through has yet to feed into CPI, he argued, noting the key question is whether consumption weakens as inflation rises.

MNI INTERVIEW: RBNZ Hike Pricing Too High, RBA OK - Fabo

Markets are overpricing the risk of further Reserve Bank of New Zealand tightening now that oil prices are subsiding, former Reserve Bank of Australia senior economist Justin Fabo told MNI.

Fabo, founder of Antipodean Macro and the RBA's former head of international financial markets, estimates there is a 40%-60% chance the RBNZ's Monetary Policy Committee will raise the 2.25% Official Cash Rate next week, well below the market-implied probability of 74.5%. Markets are also pricing an 71.4% chance of a further hike at the subsequent meeting, implying around 36 basis points of cumulative tightening, which he said was excessive.

But, while some external MPC members have adopted a hawkish stance, any hike next week would require at least one internal member to switch sides after May's meeting split three-three, with Governor Anna Breman casting the deciding vote to keep the OCR at 2.25%, he noted. (See MNI RBNZ WATCH: Gov Breman Says Hike Incoming After Hold Vote)

"[External members] rationale for tightening was to get ahead of the inflation risks, which were driven almost entirely by the conflict-related story," he said. "Now that's largely gone away. Activity indicators have softened, at least for now, so I don't know how they would justify a hike."

The market had placed too much weight on Breman's comments after the May meeting, interpreting them as signalling a rate hike could come as soon as the next meeting, he added. While inflation remains above the RBNZ's 2% target, Fabo argued the real economy does not currently warrant tighter policy.

"If you looked only at inflation, you'd probably conclude policy is still too easy... But from a real economy perspective, I don't think the data are screaming that you need to be hiking."

Underlying economic trends had been improving before the recent geopolitical shock, with labour market indicators, GDP and migration all moving in a more favourable direction. Once the effects of the Gulf conflict fade from the data, the case for gradually removing policy accommodation later this year could re-emerge, he explained.

AUSTRALIAN PRICING

Turning to his own side of the Tasman, Fabo said market pricing for around 13bp of RBA tightening by year-end looked broadly correct. 

He expects June-quarter inflation to come in largely in line with the RBA's May forecasts, which could support a rate increase in August. However, uncertainty surrounding the economic outlook means policymakers are likely to remain cautious, particularly if recent weakness in activity proves temporary.

"I wouldn't rule out further tightening later in the year," he said. "If the recent softness outside housing is largely related to the conflict, those indicators could improve again."

The housing market will be the key determinant of RBA policy over coming months, he argued, while monthly labour market data could continue to shift market expectations. "You're one good labour market report away from market pricing reversing," he said. "But the thing that's changed a lot is housing, and it's very sick. Housing has long tentacles through the economy, and I think the Bank will be watching it like a hawk."

Offshore macro hedge funds have also been a major influence on Australian rates pricing because of their increasingly bearish view of the housing market, Fabo said. "They still think Australia has too much household debt, house prices are very high and the economy is heavily leveraged to housing," he said. "When housing turns sharply, they don't think the RBA can continue hiking."

Slowing credit growth reinforced that view, he added, noting major banks had already begun cutting lending rates independently of the RBA in an effort to attract borrowers.