• We expect Fed officials to continue pushing its dovish narrative; the Fed hawks are not going quietly; the latest Fed Senior Loan Officer Opinion Survey showed somewhat looser credit standards in Q3; we believe the U.S. economy remains fairly robust
  
• Eurozone September IP data came in mixed; ECB researchers downplayed the recession signals coming from inverted yield curves; BOE Chief Economist Pill sounded quite dovish and mirror the dovish hold last week
  
• Japan reported soft September cash earnings and household spending data; RBA hiked rates 25 bp to 4.35%, as expected; China reported mixed October trade data

The dollar is trading lower as markets continue to embrace the dovish Fed narrative. DXY is trading higher for the second straight day near 105.648 and has retraced around a third of this month’s drop. Key retracement levels come in near 106 and 106.25. The euro is trading lower near $1.0665 and key retracement levels come in near $1.0635 and $1.0610. Sterling is leading this move lower and is trading near $1.2275 after dovish BOE comments (see below). Clean break below $1.2225 would set up a test of the November 1 low near $1.2095. USD/JPY is trading higher near 150.40 after weak wage data (see below). With the dollar clawing back recent losses, it seems the markets realized they were getting carried away with the dovish Fed narrative. The U.S. economy continues to grow above trend even as the rest of the world slips into recession, while price pressures remain persistent enough that the Fed will not be able to cut rates. Eventually, the Fed (and the market) will have to acknowledge this.

AMERICAS

The Fed is happily allowing the markets to embrace its dovish stance. WIRP suggests only 10% odds of a hike December 13, rising modestly to 15% January 31. More importantly, the first cut is about 50% priced in for May 1 and fully priced in for June 12. We continue to believe that this is dovish rate path is very unlikely given how persistent price pressures have been. Yet U.S. bond yields remain subdued. As we have pointed out recently, next week’s CPI data will be a true test of market convictions regarding its embrace of the dovish Fed narrative.

We expect Fed officials to continue pushing this dovish narrative. Kashkari, Goolsbee, Barr, Schmid, Waller, Williams, and Logan all speak today. Yesterday, Governor Cook warned that “Vulnerabilities at certain NBFIs (non-bank financial institutions) could play a key role in amplifying stress associated with tightening financial conditions and slowing economic activity.” She identified other risks that she is watching, including liquidity mismatches at NBFIs, debt-delinquency rates, and Treasury market functioning, where she specifically noted the so-called basis trade. While Cook made no comments about Fed policy, it’s clear that one of the chief concerns among the Fed doves remains that the Fed will “break something.”

The Fed hawks are not going quietly. Yesterday, Kashkari said “Before wedeclare that ‘we’re absolutely done, we’ve solved the problem,’ let’s get more data and see how the economy evolves. We need to let the data keep coming to us to see if we really have got the inflation genie back in the bottle so to speak.” He prefers to over-tighten rather than under-tighten, noting “Under-tightening will not get us back to 2% in a reasonable time.” We totally agree with Kashkari and remain bewildered that the Fed doves continue to signal the end of tightening despite professing data dependence.

The latest Fed Senior Loan Officer Opinion Survey showed somewhat looser credit standards in Q3. Specifically, the proportion of U.S. banks tightening credit standards for medium and large firms fell to 33.9% vs. 50.8% in Q2. This was the first drop since Q2 2021. Standards for small firms and credit cards also loosened in Q3. On the demand said, the proportion of banks reporting weaker demand for commercial and industrial (C&I) loans fell to 30.5% vs. 51.6% in Q2. This is good news for those concerned about a hard landing but perhaps bad news for those counting on a soft landing, as looser financial conditions are in the pipeline that are likely to support solid growth in Q4.

We believe the U.S. economy remains fairly robust. The New York Fed’s Nowcast model was just updated to 2.41% SAAR for Q4 vs. 2.79% previously. This is still above the Atlanta Fed's GDPNow estimate of 1.2% SAAR, which will be updated today after the data. September trade (-$60.0 bln expected) and consumer credit ($9.0 bln expected) will be reported.

EUROPE/MIDDLE EAST/AFRICA

Eurozone September IP data came in mixed. Germany came in at -1.4% m/m vs. -0.1% expected and a revised -0.1% (was -0.2%) in August. However, Spain came in at 1.1% m/m vs. 0.4% expected and a revised -0.7% (was -0.8%) in August. Italy reports September IP Friday and is expected at -0.2% m/m vs. 0.2% in August. Eurozone IP won’t be reported until November 15.

The ECB downplayed the recession signals coming from inverted yield curves. In an article published today, ECB researchers said that viewed in isolation, inverted curves in the eurozone and U.S. implies odds of recession in one year of 50% and 40%, respectively. However, the ECB noted that incorporating other financial indicators lowers those odds to 25% for both. Researchers added that QE in both economies may be flattening the yield curve and distorting the recession signal, and that “Uncertainty about the size of this effect is high, particularly as quantitative tightening makes estimating the distortion even more challenging than in the phase of balance-sheet expansion.” That said, there is little doubt in our minds that both economies will eventually go into recession.

ECB tightening expectations are long gone. WIRP sees no odds of a hike December 14. After that, only cuts are priced and the first one is largely priced in for April 11. Nagel speaks later today and is likely to offer a hawkish tone. Yesterday, follow hawk Holzmann said “We should be very careful, that we should stand ready again to hike if needed, and certainly don’t declare victory too early on. We need to stay vigilant.”

Bank of England Chief Economist Pill sounded quite dovish. He predicted that there will be a “sharp further fall” in October inflation to below 5% vs. 6.7% in September when data are reported next Wednesday. Pill noted that in terms of inflation, “We have gone a little bit higher, or in some cases quite a lot higher than the U.S., but I don’t think that those forces are very persistent. We’re going to see the U.K. get down to levels more comparable to what we’re seeing in the rest of the world.” In terms of forward guidance, Pill said “Once we allow this to work through, maybe with interest rates staying at their close levels in the language the MPC used last week in its statement for an extended time, probably meaning into the middle of next year. That’s what financial markets currently anticipate, and it doesn’t seem totally unreasonable, at least to me, then I would say it’s at that point that you might consider or reassess if nothing new has happened where we are going to have to be.” However, Pill warned that “But of course, it’s very unlikely, given the way the world is, that nothing will change over that nine-month period.”

These comments mirror the dovish hold from the Bank of England last week. WIRP suggests 10% odds of a hike December 14, rising mostly to top out near 15% February 1 vs. 25% at the start of this week. As Pill alluded to, the first cut is largely priced in for June 20 vs. August 1 at the start of this week. Governor Bailey speaks tomorrow and Pill speaks again Thursday.

ASIA

Japan reported soft September cash earnings and household spending data. Nominal earnings came in as expected at 1.2% y/y vs. 0.8% in August, while real earnings came in a tick lower than expected at -2.4% y/y vs. -2.8% in August. No wonder spending remained weak at -2.8% y/y vs. -2.5% in August. Higher wages are seen as a necessary condition by some BOJ board members for hiking rates, and recent trends suggest very little progress. Our base case for liftoff remains either March 19 or April 26, when the BOJ will have a better idea of how the annual spring wage negotiations are going.

Reserve Bank of Australia hiked rates 25 bp to 4.35%, as expected. The bank noted that “CPI inflation is now expected to be around 3.5% by the end of 2024 and at the top of the target range of 2% to 3% by the end of 2025. The Board judged an increase in interest rates was warranted today to be more assured that inflation would return to target in a reasonable timeframe.” In terms of forward guidance, the RBA said “Whether further tightening of monetary policy is required to ensure that inflation returns to target in a reasonable timeframe will depend upon the data and the evolving assessment of risks.” This was a subtle shift from previous language from “some further tightening” and suggests a high bar for further hikes. Looking ahead, WIRP suggests no odds of another hike December 5, 30% February 6, and rising modestly to top out near 50% May 7. Its Statement of Monetary Policy will be released Friday and will contain updated macro forecasts.

China reported mixed October trade data. Exports came in at -6.4% y/y vs. -3.5% expected and -6.2% in September, while imports came in at 3.0% y/y vs. -5.0% expected and -6.3% in September. While exports continue to contract, this was the first positive y/y reading for imports since February and suggests some improvement in domestic demand. We believe the economy is likely to continue struggling with deflation well into next year, as modest stimulus measures taken so far are already starting to wear off. Furthermore, the external backdrop of slow global growth is unlikely to improve much in 2024.