• The Fed delivered the expected hold; Chair Powell stuck to the message in the press conference; May retail sales will be the data highlight; regional Fed manufacturing surveys will start rolling out; jobless claims will also be reported
  
• The two-day ECB meeting ends shortly with a decision; reports suggest U.K. Prime Minister Sunak considered but ultimately abandoned plans to enact price controls; BOE tightening expectations remain elevated ahead of next week’s meeting; Israel reports May CPI
  
• The yen continues to weaken ahead of tomorrow’s BOJ decision; Japan reported soft May trade and April core machine orders; Australia reported strong May jobs data; New Zealand reported soft Q1 GDP data; PBOC cut its 1-year MLF rate 10 bp to 2.65%, as expected; Taiwan kept rates steady at 1.875%, as expected

The dollar is modestly higher ahead of the ECB decision. Trading has been a bit choppy as markets continue to digest the somewhat befuddling FOMC decision (see below). DXY is trading higher near 103.07 after two straight down days saw it trade as low as 102.663 yesterday. The euro is trading higher near $1.0835 ahead of the ECB decision (see below), while sterling is trading lower near $1.2650 after trading yesterday at a new high for this move near $1.27. USD/JPY traded at a new high for this move near 141.50 and we expect a dovish BOJ decision tomorrow (see below) to set up a test of the late November high near 142.25. The headwinds on the dollar (banking sector weakness, debt ceiling battle) have been resolved even as the tailwinds (strong economy and hawkish) remain in play. We look for the recent dollar rally to eventually resume as markets continue to underestimate the risks of Fed tightening. First, we have to get through the fallout from the skip (see below) and so the dollar remains vulnerable near-term.

AMERICAS

The Fed delivered the expected hold as well as an unexpectedly hawkish shift in the Dot Plots. The message was decidedly mixed. First and foremost, the Dot Plots shifted up significantly and now imply two more hikes this year. Specifically, 1 official sees a year-end rate of 6.125%, 2 see 5.875%, 9 see 5.625%, 4 see 5.375%, and 2 see 5.125%. In March, it was very different as 1 saw 5.875%, 3 saw 5.625%, 3 saw 5.375%, 10 saw 5.125%, and 1 saw 4.875%. The key takeaway here is that only 2 Fed officials see steady rates in 2023 vs. 10 in March (with another 1 seeing a cut to 4.875%). How can the Fed say it’s skipping now to see how data develop and in the same breath imply that it will still likely hike two more times this year?

Chair Powell stuck to the message in the press conference. He called the decision to hold at this meeting “prudent” but added that the Fed will continue to make decisions meeting by meeting. Of course, this begs the question of how the Fed could pre-commit to a skip well before this meeting was actually held. Powell noted that labor demand still “substantially” exceeds supply, though he added that the labor market is coming into better balance. Lastly, Powell stressed that “It will be appropriate to cut rates at such time as inflation is coming down really significantly, and we’re talking about a couple years out. Not a single person on the committee wrote down a rate cut this year, nor do I think it is at all likely to be appropriate.”

Did Powell make any dovish slips? No. Yet it's clear that the market still does not believe the Fed. WIRP suggests odds of a hike in July are about 70%, rising to nearly 90% in September. There are still zero odds of a second hike. That said, rate cuts this year are priced out but that had already happened before that decision. All these odds are little changed from what was priced in before the decision. Updated macro forecasts were released. As we expected, growth and inflation forecasts were raised while unemployment forecasts were lowered.

May retail sales will be the data highlight. Headline is expected at -0.2% m/m vs. 0.4% in April and ex-autos is expected at 0.1% m/m vs. 0.4% in April. The so-called control group used for GDP calculations is expected at 0.2% m/m vs. 0.7% in April. May import/export prices, April business inventories, and April TIC data will also be reported. Of note, the Atlanta Fed’s GDPNow model is currently tracking 2.2% SAAR growth in Q2, steady from the previous reading. Next model update will come today after the data.

Regional Fed manufacturing surveys will start rolling out. Empire and Philly Fed surveys will both be reported today. Empire is expected at -15.1 vs. -31.8 in May, while Philly Fed is expected at -14.0 vs. -10.4 in May. May IP will also be reported today and is expected at 0.1% m/m vs. 0.5% in April. Global manufacturing remains under pressure but for now, strong services activity is offsetting that weakness.

Jobless claims will also be reported. Initial claims are expected at 245k and will be closely watched after they spiked to 261k last week, the highest since October 2021. The last time they spiked, it was due to fraudulent claims in Massachusetts and subsequently fell. Next week’s initial claims data will be for the BLS survey week containing the 12th of the month. There is no Bloomberg consensus yet for June NFP but most labor market indicators suggest continued robustness.

EUROPE/MIDDLE EAST/AFRICA

The two-day ECB meeting ends shortly with a decision. It is expected to hike the deposit rate 25 bp to 3.50% and to confirm that all APP reinvestments will end this month. At the last meeting, President Lagarde estimated that the halt of APP reinvestments will average EUR25 bln per month and so it’s almost double the current pace of EUR15 bln per month. Forward guidance will be key and as always, President Lagarde will have to strike a fine balance. While the hawks remain vocal, recent trends in the economy have allowed the doves to control the narrative. Looking ahead, another 25 bp hike is priced in for July and the odds of one last 25 bp hike after that top out near 40% in Q4. New macro forecasts will be released and we suspect the growth outlook will be revised up and the inflation outlook will be revised up.

Reports suggest U.K. Prime Minister Sunak considered but ultimately abandoned plans to enact price controls. Policymakers were reportedly planning to ask supermarkets to impose price caps on basic goods but were forced to reverse course after a backlash from U.K. retailers as well as some Cabinet ministers. An unnamed government official said “there were never plans for a price freeze” while Sunak’s official spokesman said “We are not talking about setting prices or anything like that.” The fact that officials were even considering such a controversial move shows just how concerned the government is about stubbornly high inflation as the election draws closer and closer.

Bank of England tightening expectations remain elevated ahead of next week’s meeting. WIRP suggests a 25 bp hike to 4.75% is fully priced in, with 15% odds of a larger 50 bp move. Looking ahead, 25 bp hikes are fully priced in for August, September, and November that would see the policy rate peak near 5.75%. Cunliffe speaks later today while the BOE releases its inflation attitudes survey tomorrow. Of note, May CPI data will be reported next Wednesday and headline is expected at 8.5% y/y vs. 8.7% in April.

Israel reports May CPI. Headline is expected to remain steady at 5.0% y/y. If so, it would be stuck at that level for the third straight month and remain well above the 1-3% target range. At the last policy meeting May 22, Bank of Israel hiked rates 25 bp to 4.75% and Deputy Governor Abir said continue tightening “has been the cost of the depreciation of the currency around the political uncertainty, increasing this premium for Israel around the judicial reforms.” Next policy meeting is July 10 and while another hike is possible, much will depend on politics and the shekel.

ASIA

The yen continues to weaken ahead of tomorrow’s Bank of Japan decision. USD/JPY traded near 141.50 today, the highest since November 21 and on track to test that day’s high near 142.25. The central bank divergence story remains in play as the Fed stakes out hawkish forward guidance even as reports suggest the bank is unlikely to tweak its Yield Curve Control. Governor Ueda noted last week that “There is still a little distance to attaining the 2% price target in a stable and sustainable manner. Therefore, our stance is to continue with monetary easing patiently.” WIRP suggests 10% odds of liftoff this week, rising to 20% in July, 25% in September, 55% in October, and 70% in December.

Japan reported May trade and April core machine orders. Exports came in at 0.6% y/y vs. -1.2% expected and 2.6% in April, while imports came in at -9.9% y/y vs. -10.3% expected and -2.3% in April. This was the weakest export growth since February 2021. Elsewhere, orders came in at -5.9% y/y vs. -8.5% expected and -3.5% in March. This was the weakest since December. This continues a string of soft data that will keep the BOJ concerned about removing stimulus too early.

Australia reported strong May jobs data. A whopping 75.9k jobs were added vs. 17.5k expected and a revised -4.0k (was -4.3k) in April, while the unemployment rate fell a tick to 3.6% vs. expectations of a steady reading . The details were strong, as 61.7k full-time jobs were added along with 14.3k part-time jobs. In addition, the participation rate rose two ticks to 66.9%. Of note, the unemployment is only two ticks above the cycle low from October and so the labor market remains very tight despite the RBA tightening seen so far.

RBA tightening expectations have picked up even further. They were already elevated after last week’s hawkish surprise but the strong data suggest the RBA was correct in restarting the tightening cycle. WIRP suggests 50% odds of a hike July 4, rising to fully priced in August 1 followed by another hike fully priced in for Q4.

New Zealand reported soft Q1 GDP data. Growth came in as expected at -0.1% q/q vs. a revised -0.7% (was -0.6%) in Q4, while the y/y rate came in at 2.2% vs. 2.6% expected and a revised 2.3% (was 2.2%) in Q4. GDP has contracted two straight quarters for the first time since Q1 and Q2 2020 and the soft data is clearly impacting RBNZ expectations as well as NZD. This divergence with the RBA has led Kiwi to lag the Aussie during this latest bounce in the foreign currencies and so the AUD/NZD cross has moved higher to trade above 1.10 and is on track to test the February high near 1.1090.

Unlike the other two central banks in the dollar bloc, the RBNZ is unlikely to hike rates again. At the last meeting May 24, the bank hiked rates 25 bp but signaled that it was the end of the tightening cycle and not a pause, as Governor Orr noted “All of the committee were comfortable with the forward path that had interest rates holding around 5.5%.” It remains to be seen whether the RBNZ is eventually forced to restart the tightening cycle but for now, WIRP suggests only 5% odds of a hike July 12 and top out near 40% October 4.

PBOC cut its 1-year 10 bp to 2.65%, as expected. China also reported soft May data. IP came in as expected at 3.5% y/y vs. 5.6% in April, retail sales came at 12.7% y/y vs. 13.7% expected and 18.4% in April, fixed asset investment came in at 4.0% YTD vs. 4.4% expected and 4.7% in April, and property investment came in at -7.2% YTD vs. -6.7% expected and -6.2% in April. The stimulus seen so far has been rather timid and so we expect softness in the data to continue and that should lead to further stimulus in H2.

Further yuan weakness is likely. PBOC easing has led to narrower interest rates spreads with the U.S. As such, it’s no surprise that USD/CNY traded above 7.18, the highest since November 29 and on track to test the November 28 high near 7.2410. After that is the November 1 high near 7.3275.

Taiwan central bank kept rates steady at 1.875%, as expected. This was the first pause since 2021. The bank cut its 2023 growth forecast to 1.72% vs. 2.21% previously. Governor Yang would not rule out further hikes, He stressed that monetary policy would continue to be data-dependent and that inflation is still the main factor for monetary policy and not economic growth. CPI rose 2.02% y/y in May, the lowest since July 2021. While the central bank does not have an explicit inflation target, we believe the tightening cycle has ended. The market is pricing in steady rates over the 12 months, followed by the start of an easing cycle over the subsequent 12 months.