Dollar Soft as U.S. Returns from Holiday

February 20, 2024

Win Thin

After last week’s fireworks, this is a quiet data week for the U.S.; the strong U.S. economy has benefitted its neighbors; Canada highlight will be January CPI
ECB reported its indicator of negotiated wage settlements for Q4; eurozone reported December current account data; there was no new policy guidance from BOE officials
RBA minutes were released; China banks set their key Loan Prime Rates; government officials continue to jawbone the Bank of Thailand

The dollar is soft as the U.S. returns from holiday. DXY is trading modestly lower near 104.179 after trading flat for two straight days. The euro is trading higher near $1.08, helped by another huge current account surplus in December, while sterling is trading flat just below $1.26. USD/JPY is trading flat near 150.20. When all is said and done, recent developments support our view that the Fed is unlikely to cut rates anytime soon. The data continue to come in mostly firmer while Fed officials remain cautious about easing. We believe that the current market easing expectations for the Fed still need to adjust. When they do, the dollar should see further gains after this current period of consolidation.

AMERICAS

After last week’s fireworks, this is a quiet data week for the U.S. February Philly Fed services index and January leading index will be reported today and are unlikely to have much market impact. Q1 growth estimates have been shaved after the weak retail sales data, but that doesn’t take away from the overall story of U.S. economic outperformance. The New York Fed’s Nowcast model is now tracking Q1 at 2.8% SAAR and will be updated Friday. Elsewhere, the Atlanta Fed’s GDPNow model is tracking Q1 at 2.9% SAAR and will be updated next Tuesday.

The strong U.S. economy has benefitted its neighbors. According to the IMF, Mexico grew 3.4% in 2023. Compare that to Peru (-0.6%), Chile (-0.5%), Colombia (0.6%), and Brazil (3.1%). Looking at the majors, Canada grew 1.1% in 2023 and compares favorably to Sweden (-0.7%) and Norway (0.5%), about the same as New Zealand (1.1%), and slightly worse than Australia (1.8%). Strong growth and persistent price pressures have led both Banco de Mexico and Bank of Canada to stake out relatively hawkish positions compared to their peers. It should be no surprise then that in terms of currency performance, MXN was the second-best EM performer in 2023 and remains there in 2024 YTD. In the majors, CAD was in the middle of the pack in 2023 but is now the second-best performer in 2024 YTD.

Canada highlight will be January CPI. Headline is expected at 3.3% y/y vs. 3.4% in December. If so, it would be the first deceleration since October. Elsewhere, core trim is expected to fall a tick to 3.6% while core median is expected to remain steady at 3.6% y/y. The Bank of Canada can be patient before cutting interest rates, as core inflation measures remain high and sticky in the range of 3.5-4.0%, driven in large part by rising rents. Canada’s OIS curve implies the first rate cut will be seen in July.

EUROPE/MIDDLE EAST/AFRICA

ECB reported its indicator of negotiated wage settlements for Q4. Wage settlements slowed to 4.5% y/y vs. the record high 4.7% in Q3. Furthermore, the ECB’s forward-looking wage trackers point to some further cooling of wage pressures. Rising wages have led some at the ECB to remain concerned about potential inflationary impulses in the economy. Despite the slowdown in the economy, eurozone unemployment is at a cycle low of 6.4% in December and so wage pressures may be persistent. ECB officials would probably like to see Q1 wage settlements (due out in May) before cutting rates, which points to June as the most likely choice. The market is pricing in less than 10% odds of a cut March 7, rising to 45% April 11 and fully priced in June 6.

Eurozone reported December current account data. The surplus widened to EUR31.9 bln in December vs. a revised EUR22.5 bln (was EUR24.6 bln) in November. The surplus was equivalent to 1.8% of GDP in the 12 months to December vs. 1.6% previously. This is the biggest current account surplus since March 2022 and puts upward pressure on the long-term fundamental value for the euro.

There was no new policy guidance from Bank of England officials. Governor Andrew Bailey and other MPC members testified at the Treasury Committee hearing on the February Monetary Policy Committee Report. Bailey noted that the economy is showing distinct signs of upturn and warned that inflation does not need to be at target before cutting interest rates. The market still sees basically no chance of a cut March 21, rising to almost 25% May 9 and over 60% June 20. A cut isn’t fully priced in until August 1.

ASIA

RBA minutes were released. The minutes showed the bank considered whether to raise the cash rate by 25 bp or leave it unchanged. It opted to leave the cash rate at 4.35% because “the risk of inflation not returning to the Board’s target within a reasonable timeframe had eased.” Also, members agreed that it was important not “to rule in or out further increases in interest rates.” Australia’s Q4 Wage Price Index is the next domestic highlight due out tomorrow. In line with RBA forecasts, market participants anticipate wages to increase 0.9% q/q and 4.1% y/y. Strong wage growth will validate the RBA not ruling out further increase in interest rates and support AUD. Of note, the market is not pricing in the first cut until Q3.

China banks set their key Loan Prime Rates. The 1-year rate was kept steady at 3.45% while the 5-year rate was cut 25 bp to 3.95% vs. 10 bp expected. The PBOC just kept its key MLF rate steady at 2.5% over the weekend and so the cut in the 5-year rate is noteworthy. It is a reference rate for mortgage rates and so the larger than expected cut is clearly meant to boost the ailing property sector. Deflation deepened in January and weak aggregate demand suggests little relief in sight. While further monetary easing is likely in the coming months, it is unlikely to have much impact until the huge debt overhang is addressed.

Government officials continue to jawbone the Bank of Thailand. This time, it came right from the top as Prime Minister Srettha said that “I would like to implore the MPC to urgently call a committee meeting to consider reducing interest without waiting for a scheduled meeting.” Srettha also serves as Finance Minister and so the jawboning is doubly noteworthy for its inappropriateness. The bank just left rates steady February 7, but Srettha noted that “April is almost two months away, and I urge them to reconsider the decision.” While we tend to dislike such jawboning, the weak economy and deflation risks do warrant easier policy. The swaps market is pricing in the start of an easing cycle with a 25 bp cut at the April 10 meeting, followed by another cut in H2 that takes the policy rate down to 2.0%.

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