Dollar Firm as U.S. Real Rates Rise

September 27, 2023
  • Real yields continue to move in the dollar’s favor; Fed tightening expectations have yet to adjust significantly higher; August durable goods orders will be the data highlight; Brazil central bank minutes show little desire for a faster easing cycle
  • ECB hawks remain vocal but their number is dwindling; Germany reported soft October GfK consumer confidence; eurozone reported weak August M3 data; Turkey President Erdogan expressed support for the central bank’s more aggressive tightening path; Czech National Bank is expected to keep rates steady at 7.0%
  • Minutes of the July 27-28 BOJ meeting were released; Australia reported August CPI data; PBOC is bumping up against the limits of what it can do to support the yuan; China reported strong August Industrial profits; Thailand hiked rates 25 bp to 2.5%, as expected

The dollar remains firm as the relentless rally continues. DXY is trading higher for the sixth straight day at a new cycle high near 106.342. Next up is the November 30 high near 107.195. The euro traded at a new cycle low today near $1.0555, the weakest since March 16, and is on its way to testing that month's low near $1.0515. Break below would set up a test of the November 30 low near $1.0290. Sterling traded at a new cycle low today near $1.2135, the weakest since March 17 and is on its way to testing that month's low near $1.1805. USD/JPY traded at a new cycle high today near 149.25, the highest since October 24 and is on its way to testing that month's high near 152. Expect official jawboning to continue. The fundamental story remains in favor of the greenback as the U.S. economy is in a much stronger position than the other major economies such as the eurozone or the U.K. With firm U.S. data expected to lead to an adjustment higher in Fed tightening expectations, we look for further dollar strength.


Real yields continue to move in the dollar’s favor. The real U.S. 10-year yield traded near 2.22% yesterday, the highest since late 2008. The German real yield has climbed but not by as much, while the U.K. and Japan have basically flat-lined. The FX market has taken its cue from real rates and continues to take the dollar higher, as DXY bottomed July 14 and has risen 6.5% since. Indeed, DXY has gained every week since that bottom for a streak of ten straight. These trends should continue.

Fed tightening expectations have yet to adjust significantly higher. WIRP suggests only 20% odds of a hike November 1, rising to 40% December 13 and 45% January 31. These odds are way too low given the Fed’s hawkish stance and should move higher if the data remain firm, as we expect. Fed officials are likely to push the higher for longer narrative this week. Kashkari speaks today and has already said this week that he favors one more hike this year.

August durable goods orders will be the data highlight. Orders are expected at -0.5% m/m vs. -5.2% in July. We get another revision to Q2 GDP data tomorrow and growth is expected to be revised up a tick to 2.2% SAAR. However, that’s old news and markets are looking ahead to Q3 and Q4. The Atlanta Fed’s GDPNow model is currently tracking Q3 growth at 4.9% SAAR and the next update comes today after the data.

Brazil central bank minutes from last week’s meeting show little desire for a faster easing cycle. In the minutes, the bank stressed that “There is low probability of an additional intensification in the pace of adjustment, since this would require substantial positive surprises that would raise even further the confidence in the prospective disinflationary dynamics.” Next meeting is November 1 and another 50 bp cut to 12.25% is expected. The central bank then releases its quarterly inflation report tomorrow and is expected to contain forecasts that justify its cautious approach to easing. Of note, inflation has picked up recently due in large part to low base effects, but we suspect that is one reason for the bank’s caution.


The ECB hawks remain vocal but their number is dwindling. Holzmann said that “There are shocks out there which may force us to go higher. Inflation needs to be kept under control and that’s what we’re here for.” Elderson seemed to concur, noting that rates may not have peaked as “There is still a lot of uncertainty. That’s why we take these decisions meeting by meeting, on a data-dependent basis. Making any predictions about what we will do next would not be consistent with that approach.” We can only assume that Holzmann was referring to an oil shock, which brings not inflationary risks but stagflationary ones. As we all know, there is no good policy response to stagflation but we’ll cross that bridge when we get to it. Despite the few hawkish holdouts, we think the discussion at the ECB has clearly shifted from how high to how long. WIRP suggests around 5% odds of a hike October 26, then rising to top out near 20% December 14. The first cut is still seen around mid-2024 but has started to shift towards June vs. July previously.

Germany reported soft October GfK consumer confidence. Headline came in at -26.5 vs. -26.0 expected and a revised -25.6 (was -25.5) in September. This was the second straight drop to the lowest since April. Business sentiment has also been deteriorating in recent months and so the outlook for Germany remains gloomy.

Eurozone reported weak August M3 data. M3 came in at -1.3% y/y vs. -1.0% expected and -0.4% in July, and was the weakest on record dating back to 1971. Earlier this week, ECB’s Schnabel downplayed the current contraction in money supply when she said “The current, unusual contraction in monetary aggregates is unlikely to foreshadow a deep recession but rather reflects a significant rebalancing of portfolios after a long period of low interest rates.” There is no doubt that the eurozone is going into recession; the only thing that’s unknown is how bad it will be.

Turkey President Erdogan expressed support for the central bank’s more aggressive tightening path. Specifically, Erdogan said that his economic team is “implementing measures of monetary and credit tightening to attain price stability. These steps will channel our resources to productive areas and aim to attain high, sustainable and balanced economic growth.” This is a far cry from his previous stance that rate hikes were the primary cause of inflation. Erdogan’s about-face, coupled with last week’s 500 bp hike and the accompanying hawkish message from the central bank, has had an impact on market expectations. The swaps market is now pricing in a peak policy rate near 40% vs. 36% at the start of last week. With inflation at 59% and still rising, a policy rate of 40% still wouldn't do the trick in terms of lowering inflation and stabilizing the lira. However, it’s a start and policymakers will have to adjust as the situation demands.

Czech National Bank is expected to keep rates steady at 7.0%. Last week, Governor Michl pushed back against rate cut bets and said “Inflation is still extremely high, which is why we should all forget about cutting interest rates any time soon. Don’t expect at all that we will cut in September, October or something like that. Just forget about rate cuts. We will keep restrictive monetary policy until we are certain that inflation will be around 2% not only in the first half of 2024 but also later.” Michl is trying to differentiate the bank from its counterparts in Hungary and Poland, both of which have started aggressive easing cycles even as inflation remains high and above target. Despite Michl’s comments, the swaps market is still pricing in 50 bp of easing over the next three months, followed by another 50 bp over the subsequent three months..


The minutes of the July 27-28 BOJ meeting were released. At that meeting, Yield Curve Control was tweaked. Sort of. Recall that the bank said it would maintain the current 0.5% ceiling for the 10-year JGB yield but now called it a “reference point.” To make matters more confusing, the BOJ then offered to buy 10-year JGBs at 1.0% every day and has since bought bonds sporadically whilst allowing the 10-year yield to drift higher to 0.73% currently. The minutes showed that some members felt it was important to explain clearly that YCC tweaks are not a step towards exiting accommodation. Many members felt that hitting the BOJ’s inflation target was not yet in sight, though one said the goal seemed to be clearly in sight and that it might be possible to know this for sure in Q1. Of note, WIRP suggests 15% odds of liftoff in October, rising to nearly 70% in December, 85% in January and fully priced in for March. The summary of opinions from last week’s policy meeting will be released this coming Monday, while the minutes will be released in early November.

Australia reported August CPI data. Headline picked up three ticks as expected to 5.2% y/y. This was the first acceleration since April and moves inflation further above the 2-3% target range. RBA tightening expectations have picked up as a result of recent economic data. WIRP suggests no change at new Governor Bullock’s first meeting October 3. However, those odds rise to nearly 30% November 7, 40% December 5, and top out near 70% in Q1.

PBOC is bumping up against the limits of what it can do to support the yuan. The fix has flatlined just above 7.17 since mid-September even as both CNY and CNH move higher. USD/CNY is allowed to trade 2% daily on either side of the fix and traded around 1.9% above this entire week. We would not be surprised if there were some stealth intervention by state-owned banks to prevent the limit from being breached. The bank has also tried to support CNH by tightening offshore liquidity. None of these measures will have much sustained impact when monetary policy divergences and interest rate differentials continue to move in the dollar’s favor.

China reported strong August Industrial profits. Profits jumped 17.2% y/y vs. -6.7% in July, the first positive reading in over a year. However, to illustrate just how bad 2023 has been, the YTD reading still came in at -11.7% vs. -15.5% in July, Government official noted that “With the steady rebound in industrial production and the improvement in the connection between production and sales, the income of industrial firms improved gradually. If consumption improves, we can expect a continued growth of profits,” he said. We cannot get too excited from the recent bounce in the data as it is likely to prove unsustainable.

Bank of Thailand hiked rates 25 bp to 2.5%, as expected. However, the market was split. Of the 21 analysts polled by Bloomberg, 11 saw steady rates and 10 saw a 25 bp hike. After hinting at the last meeting August 2 that the tightening cycle was nearing an end, the bank confirmed it today as it dropped its reference to the need for “further increases” in interest rate going forward. Assistant Governor Piti acknowledged some inflationary risks from the cash handouts announced by the government, noting that the bank expects multiplier effects of around 0.3-0.6 times from the THB560 bln ($15.3 bln) program that is expected to begin in Q1. The multiplier is high because the program provides THB10,000 each to an estimated 55 mln people and must be spent within six months. Piti added that “The rate hike will help anchor inflation expectations.” Despite the bank’s forward guidance, the swaps market is pricing in 25 bp of tightening over the next three months followed by some odds of another 25 bp over the next year.  

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