Dollar Firm as Fed Tightening Expectations Rise Ahead of PCE Data

June 30, 2023
  • Fed tightening expectations continue to rise; U.S. yields have risen accordingly; June PCE data will be the data highlight; June Chicago PMI will be closely watched; Q1 GDP growth was revised up sharply; the labor market remains strong; Brazil will maintain its 3% inflation target but has turned it into a medium-term goal; Colombia is expected to keep rates steady at 13.25%
  • Eurozone reported June CPI data; ECB tightening expectations remain steady; Germany reported June retail sales and unemployment; top U.K. energy wholesaler warned that consumers are likely to face elevated power bills for the foreseeable future
  • Japan reported soft June Tokyo CPI; Japan also reported May labor market data, IP, and housing starts; China reported soft official June PMI readings

The dollar continues to firm ahead of PCE data. DXY traded as high as 103.543 earlier today as strong data and heightened Fed tightening expectations adds to the greenback’s attractiveness. DXY has now retraced more than half of the May-June drop. Next key objective is 103.638 and a break above sets up a test of the May 31 high near 104.699. The euro is trading lower near $1.0845 after the June CPI data (see below) while sterling is trading higher near $1.2635. USD/JPY traded at a new high for this move just above 145 before falling back to trade near 144.65 currently. The FX market remains choppy as markets try to get a handle on Fed policy. With markets now starting to increasingly price in that second Fed hike this year (see below), the dollar should get further traction. PCE data today and jobs data next Friday will be key to this repricing.


Fed tightening expectations continue to rise. WIRP still suggests a 25 bp hike is largely priced in for July but the odds of another 25 bp hike after that have risen to nearly 40% in November More importantly, market pricing for the start of an easing cycle has been pushed out until next June. That sounds about right but with risks tilted to later rather than sooner. As far as the pace of easing goes, the market is pricing in 100 bp of easing by end-2024. That is slightly less than what the June Dot Plots suggest but a lot can happen between now and 2024.

Fed policymakers remain split. On the hawkish side, Kaplan said the Fed could hike rates three more times. This suggest he is one of two policymakers looking for three more hikes in the June Dot Plots but not the one looking for four more. On the dovish side, Bostic said that Powell sees more urgency to hike than he does. While he didn’t tip his hand, it seems likely that Bostic is one of two policymakers looking for no more hikes in the June Dot Plots. Just to round on the picture, four saw one more hike and nine saw two more hikes.

U.S. yields have risen accordingly. The 2-year yield traded today at the highest since March near 4.93% and is on track to test that month’s cycle high near 5.08%. Similarly, the 10-year yield traded today at the highest since March near 3.89% and is on track to test that month’s cycle high near 4.09%. The 2-year differentials continue to move in the dollar’s favor.

June PCE will be the data highlight. Headline is expected at 3.8% y/y vs. 4.4% in April, while core is expected to remain steady at 4.7% y/y. Super core remains stuck at 4.6% y/y. Of note, the Cleveland Fed’s inflation Nowcast sees headline at 3.9% y/y and core at 4.7% y/y, both close to consensus. Before the next FOMC decision July 26, we will get one reading each for jobs, CPI, PPI, and retail sales but barring a complete collapse in the economy, a 25 bp hike then seems like a done deal.

Personal income and spending will be reported at the same time. They are expected at 0.3% m/m and 0.2% m/m, respectively. Real personal spending is expected at 0.1% m/m vs. 0.5% in April. Personal spending covers services and gives a better picture of the U.S. consumer than retail sales, which covers only goods purchases. The Q1 GDP revision (see below) suggests the consumer is alive and well here in the U.S. Final June University of Michigan consumer sentiment will also be reported.

June Chicago PMI will be closely watched. Headline is expected at 43.8 vs. 40.4 in May. Of note, S&P preliminary PMI readings came in soft last week, with manufacturing falling to 46.3 vs. 48.4 in May and services falling to 54.1 vs. 54.9 in May. As a result, the composite fell to 53.0 vs. 54.3 in May. ISM PMIs will be reported next week, with manufacturing expected to rise a tick to 47.0 and services expected to rise nearly a full point to 51.1.

Q1 GDP growth was revised up sharply. Growth was revised to 2.0% SAAR vs. 1.3% SAAR previously. This was due mostly to personal consumption, which was revised to 4.2% SAAR vs. 3.8% SAAR previously. This pushed up consumption’s contribution to Q1 growth up to 2.79 percentage points, the most since Q2 2021. Government consumption and net exports are also contributing to growth, while inventories are subtracting from growth. While this might be considered old news, it supports our belief that momentum in consumption and the economy as a whole remains strong as we move through Q2 and into Q3. Of note, the Atlanta Fed's GDPNow model is currently tracking 1.8% SAAR for Q2. Next update comes today after the data but when all is said and done, the U.S. economy continues to grow near trend at a time when below trend growth is needed to bring inflation down.

The labor market remains strong. Initial claims fell to 239k vs. 265k expected and a revised 265k (was 264k) last week. This was the lowest for since late May but the 4-week moving average still rose slightly to 257.5k. Elsewhere, continuing claims fell to 1.742 mln vs. 1.765 mln expected and a revised 1.761 mln (was 1.759 mln) last week. This was the lowest for continuing claims since mid-February and was for the BLS survey week containing the 12th of the month. Overall, this is yet more evidence that the labor market remains strong. Consensus for NFP is currently 200k vs. 339k in May but Bloomberg’s whisper number is 262k.

Brazil will maintain its 3% inflation target but has turned it into a medium-term goal. Central bank President Roberto Campos Neto, Finance Minister Fernando Haddad, and Planning Minister Simone Tebet of the national monetary council unanimously decided eliminate targets for each calendar year and instead introduced a constant 3% medium-term inflation target plus or minus 1.5 percentage points. Haddad said the continuous target will begin in 2025 and there will no longer be the need to reaffirm the 3% target each year. This was a relief as President Lula continued to push for a higher inflation target, saying Brazil “doesn’t need such a rigid goal.” Of note, policymakers will work with a time horizon of 24 months to bring inflation to target vs. 18 months currently. Mid-June IPCA inflation was just reported at 3.4% y/y, the lowest since September 2020 and approaching the 3% target. The market is pricing in a rate cut at the next COPOM meeting August 2, with 50 bp of easing seen over the next three months followed by another 125 bp over the subsequent three months.

Colombia central bank is expected to keep rates steady at 13.25%. At the last policy meeting April 28, the bank hiked rates 25 bp to 13.25%. Governor Villar said he wouldn’t rule out further tightening but noted that there were signs that inflation is starting to ease. The market is pricing in the start of an easing cycle with 25 bp seen over the next three months followed by another 100 bp over the subsequent three months.


Eurozone reported June CPI data. Headline came in a tick lower than expected at 5.5% y/y vs. 6.1% in May and core came in a tick lower than expected at 5.4% y/y vs. 5.3% in May. Though headline inflation has been falling steadily, ECB policymakers will remain very concerned about elevated core readings. Earlier, France reported its EU Harmonised inflation at 5.3% y/y vs. 5.4% expected and 6.0% in May.

ECB tightening expectations remain steady. WIRP suggests odds of a 25 bp hike are near 90% July 27. Odds of another 25 bp hike stand near 50% September 14 and is fully priced in for December 14. After that, no more hikes are priced in. This is noteworthy as it appears the market believes the doves even though core inflation remains uncomfortably high.

Germany reported June retail sales and unemployment. Sales came in at 0.4% m/m vs. flat expected and a revised 0.7% (was 0.8%) in April while the unemployment rate rose a tick to 5.7%, the highest since June 2021. Germany reports May factory orders, IP, and trade data next week.

Top U.K. energy wholesaler warned that consumers are likely to face elevated power bills for the foreseeable future. Centrica CEO warned that even though wholesale electricity and natural gas prices have fallen back to levels before Russia invaded Ukraine, “they’re still two and a half times the long-run average.” He added that this may keep household utility bills at around GBP2,000 per year. Of note, wholesale energy prices for the upcoming winter are trading at a premium to summer contracts across Europe, which suggests recent energy price relief may wane. Regarding BOE policy, WIRP suggests another 50 bp hike is largely priced in for August, followed by 25 bp hikes in September, November, and December that would see the bank rate peak near 6.25%. This would represent the most aggressive tightening cycle in the majors so far in terms of absolute magnitude and yet the benefits to sterling are starting to wane. That’s because a recession is now back on the table after some earlier optimism.


Japan reported soft June Tokyo CPI. Headline came in at 3.1% y/y vs. 3.4% expected and 3.2% in May, while core (ex-fresh food) came in at 3.2% y/y vs. 3.4% expected and a revised 3.1% (was 3.2%) in May. Even core ex-energy eased to 3.8% y/y vs. 4.0% expected and 3.9% in May. This bodes well for the national reading and will help the BOJ justify keeping policy on hold for now. Earlier today, USD/JPY traded with a 145 handle for the first time since November and is about to move into a new trading range of 145-150 after trading between 130-140 from February through mid-June and then between 140-145 from mid-June until now. BOJ is showing no signs of pivoting and so monetary policy divergences are only growing.

Japan also reported May labor market data, IP, and housing starts. Unemployment was steady as expected at 2.6% while the job-to-applicant ratio fell a tick to 1.31 vs. 1.32 expected and actual in April. Elsewhere, IP came in at -1.6% m/m vs. -1.0% expected and 0.7% in April but the y/y rate still picked up to 4.7%. Housing starts also picked up to 3.5% y/y vs. -2.7% expected and -11.9% in April and was the first positive reading since January. After a weak start to Q2, there are some signs of life in the economy.

China reported soft official June PMI readings. Manufacturing came in as expected at 49.0 vs.48.8 in May, while non-manufacturing came in at 53.2 vs. 53.5 expected and 54.5 in May. As a result, the composite fell to 52.3 vs. 52.9 in May and was the third straight monthly drop to the lowest since December. Caixin readings will be reported next week. Manufacturing is expected at 50.0 vs. 50.9 in May and services is expected at 56.2 vs. 57.1 in May. If so, Caixin’s composite PMI would likely fall a full point from 55.6 in May. Of note, the Caixin readings have been running higher than the official ones in recent months. Either way, there is clearly a loss of momentum in the economy and will bring forth more calls for stimulus in H2.

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