• Financial markets are on edge amidst heightened Middle East tensions; U.S. East and Gulf coast dockworkers went on strike yesterday; ADP private sector jobs estimate will be the data highlight; August JOLTS data are worth discussing; U.S. Vice Presidential debate was held last night
  
• French Prime Minister Barnier previewed some fiscal tightening; the ECB doves continue to gain the upper hand; Poland is expected to keep rates steady at 5.75%
  
• BOJ Governor Ueda sounded dovish; there has already been jawboning by the incoming government; Korea reported soft September CPI data

The dollar is firm amidst rising Middle East tensions. DXY is trading higher for the third straight day 101.254 as Israel pledged to retaliate against Iran (see below). USD/JPY is trading higher near 144.70 on dovish comments by BOJ Governor Ueda after more jawboning by the new government (see below). Rising ECB rate cut expectations have pushed the euro lower to $1.1070, while sterling is trading lower near $1.3280. We believe the data and Fed comments continue to support a gradual easing cycle (see below). Market easing expectations for the Fed have adjusted modestly but still remain too dovish as the U.S. data remain firm. Yet we cannot stand in the way of this move and so until market pricing changes, the dollar is likely to remain vulnerable. It will take a lot more data to convince the markets, but perhaps this week’s batch will further the process.

AMERICAS

Financial markets are on edge amid heightened risk of a broader regional conflict in the Middle East. USD is firm near yesterday’s high, U.S. equity futures are down, and crude oil prices up 3% today to add on to yesterday’s 8% gains. The fog of war will likely continue to dominate financial market action in the near-term as Israel promised a “significant retaliation” to yesterday’s ballistic missile attack on the country by Iran. Iran’s latest missile strikes came with far less warning than in April, raising the prospect of a full-blown war involving Iran and Israel. Indeed, US national security adviser Jake Sullivan called the Iranian attack “a significant escalation.”

U.S. East and Gulf coast dockworkers went on strike yesterday. An estimated 40% of total U.S. trade flows through these ports. However, the impact on the U.S. economy will depend on the length of the strike. The last time East and Gulf coast dockworkers went on strike was in 1977, it lasted seven weeks. The National Association of Manufacturers estimate daily economic losses of around $1.5-2.5 bln (or 0.005-0.009% of GDP). Of note, backlog of orders and supplier deliveries in the September ISM manufacturing PMI report both crept higher to 44.1 and 52.2, respectively. The higher these numbers are, the greater the strains on the supply chain and so bear watching as the port strike continues.

For now, the data and Fed comments favor a gradual easing path. Odds of a 50 bp cut at the November 6-7 FOMC meeting have fallen to around 35% but it will really depend on the data. Yesterday, Governor Cook didn’t comment on policy but noted that "The degree to which AI leads to productivity improvement bears careful watching, because, if it does meaningfully lift productivity, it could help constrain unit labor costs and inflation in the long run." This underscores the parallels that we have long highlighted with the productivity boom of the 1990s, when the U.S. was also in an economic Goldilocks situation. Hammack, Musalem, Bowman, and Barkin speak today.

ADP private sector jobs estimate will be the data highlight. Consensus sees 125k jobs added vs. 99k in August. The September jobs report Friday will test the Fed’s gradual approach. A weak reading would push up the odds of a 50 bp cut in November, while a strong reading would push them down. Bloomberg consensus for NFP is currently at 150k vs. 142k in August. However, its whisper number comes in slightly lower at 138k. Unemployment is expected to remain steady at 4.2%, while average hourly earnings are expected to remain steady at 3.8% y/y. Whether the strike impacts labor market data will also depend on the duration of the strike; if it extends through the BLS survey week containing the 12th of the month, October NFP will be affected.

August JOLTS data are worth discussing. Openings came in at 8.040 mln vs. 7.693 mln expected and a revised 7.711 mln (was 7.673 mln) in July. This was the highest since May. Furthermore, the job openings rate rose 0.2 ppt to 4.8% and moves away from the 4.5% threshold that typically signals a significant rise in the unemployment rate. Other details were mixed, as the layoff rate fell 0.1 ppt to 1.0% while the hiring rate fell 0.1 ppt to 3.3%. September Challenger job cuts and weekly jobless claims will be reported tomorrow. However, we continue to believe that the labor market remains in solid shape.

September ISM manufacturing PMI was soft. Headline came in steady at 47.2 vs. 47.5 expected. The details were mixed, as prices paid fell to 48.3 vs. 54.0 in August and employment fell to 43.9 vs. 46.0 in August. However, new orders rose to 46.1 vs. 44.6 in August and production rose to 49.8 vs. 44.8 in July. When all is said and done, the ISM services PMI tomorrow is much more important for the U.S. outlook. Headline is expected to rise two ticks to 51.7. Prices paid is expected at 56.3 vs. 57.3 in August but there are clear downside risks after the sharp drop in manufacturing prices paid, the largest since May 2023.

U.S. growth remains robust. The Atlanta Fed’s GDPNow model is tracking Q3 growth at 2.5% SAAR and will be updated next Tuesday after the data. Elsewhere, the New York Fed’s Nowcast model is tracking Q3 growth at 3.0% SAAR and Q4 growth at 2.8% SAAR and will be updated Friday.

The U.S. Vice Presidential debate was held last night. Most flash polls and political pundits indicate that there was no clear winner. There are no more Presidential debates scheduled ahead of the November election. The race remains close, with betting market and polls giving Vice President Harris a slight edge over former President Trump.

EUROPE/MIDDLE EAST/AFRICA

French Prime Minister Barnier previewed some fiscal tightening. He confirmed that next week’s budget will include “time-limited and targeted” tax hikes. Barnier also delayed by two years the timing to bring the budget deficit, which is expected to hit -6% of GDP this year, back within the -3% of GDP EU Stability and Growth Pact limit. Encouragingly, the leader of the far-right National Rally Le Pen said her party would refrain from bringing down the government, suggesting the budget may have a decent chance of passing in the National Assembly. French-German 10-year government bond yield spreads tightened slightly but are just 3 bp lower than the June high of 82 bp.

The ECB doves continue to gain the upper hand. Even the hawks are starting to acknowledge the worsening economic outlook and that will only intensify in the coming days. Governing Council member Kazaks noted that “recent data clearly point in the direction of a cut [in October]” but leaned against “exaggerated” market expectations for easing. Kazaks also warned that “The risks to the economy have become more pronounced and the risks of still sticky domestic, especially services, inflation and too-weak growth are increasingly balanced with some tilt towards weak growth.” Market odds for an October cut have risen to nearly 95% vs. 25% right after the September ECB decision. Looking ahead, the market has more than fully priced in 150 bp of ECB rate cuts over the next twelve months, with nearly 85% odds of a seventh 25 bp cut. We fully expect the ECB to deliver those cuts as the eurozone economy is stagnating and inflation is undershooting the ECB’s 2% target. Lane, Elderson, and Schnabel also speak today.

National Bank of Poland is expected to keep rates steady at 5.75%. Minutes to the September 4 meeting will be released Friday. At that meeting, the bank kept rates steady but Governor Glapinski softened his stance by noting a rate cut could happen after mid-2025 vs. 2026 previously. Other MPC members (Kotecki, Duda, Dabrowski, and Litwiniuk) also turned more dovish throughout September, with some arguing for the possibility of a March 2025 rate cut at the earliest. Kotecki and Wnorowski even suggested 100 bp of cuts over 2025 was likely. The swaps market is pricing in 25 bp of easing over the next three months and 100 bp of total easing over the next 12 months.

ASIA

Bank of Japan Governor Ueda sounded dovish. He noted that “Starting with the US economy, the outlook of the global economy is uncertain and financial markets remain unstable. We will watch these developments with an extremely high sense of urgency for the time being.” Ueda added that “We will need to carefully examine how these developments will affect the outlook for Japan’s economy and prices, risks surrounding them, and the likelihood of realizing the outlook.”

There has already been jawboning by the incoming government. Prime Minister Ishiba said, “I won’t comment on interest rates, but I look forward to the BOJ keeping its current stance to help us beat deflation.” He doubled down just now, saying the economy is not in a condition for the BOJ to hike rates again. Elsewhere, new Minister for Economic Revitalization Akazawa stressed that “It’s not necessarily accurate to say Prime Minister Ishiba is pro-rate hikes. There are various conditions that need to be met for a hike. The top priority is overcoming deflation.” The market is pricing in no change at the October 30-31 BOJ meeting, with the first hike not seen until well into 2025. Only 20 bp of total tightening is priced in over the next 12 months.

Korea reported soft September CPI data. Headline came in at 1.6% y/y vs. 1.9% expected and 2.0% in August, while core fell a tick as expected to 2.0% y/y. This was the lowest headline reading since February 2021 and below the 2% target. At the last meeting August 22, the Bank of Korea left rates steady at 3.5% but it was a dovish hold as the statement removed a previous phrase that it would keep rates steady “for a sufficient period of time.” Furthermore, Governor Rhee said that four BOK members were now open to cutting rates over the next three months, up from only two at the last meeting. Next meeting is October 11 and a 25 bp cut is likely after this CPI data. Of note, the market is pricing in nearly 100 bp of total easing over the next 12 months.