Dollar Flat as Busy Central Bank Week Begins

December 16, 2024

Win Thin

We believe the divergence story favoring the dollar remains in play; S&P Global preliminary December PMIs will be the U.S. highlight; December regional Fed surveys start rolling out; BOC Governor Macklem speaks today
German Chancellor Scholz faces a vote of no confidence today; ECB officials remain dovish; eurozone reported firm preliminary December PMIs; U.K. reported mixed preliminary December PMIs
Japan reported firm preliminary December PMIs; Australia reported soft preliminary December PMIs; China reported soft November data

The dollar is mixed as a busy central bank week begins. DXY is trading flat near 107 after six straight up days. USD/JPY traded at a new high for this move near 154 today ahead of the BOJ meeting this week. Sterling is trading higher near $1.2645 ahead of the BOE meeting this week, while the euro is trading lower near $1.0485 in the wake of the ECB decision last week. We look for the dollar rally to continue on the economic divergence story (see below). While the U.S. election results have turbo-charged this dollar move, faithful readers will recall that we have been resolute in our belief that the strong U.S. fundamental story continues to favor higher UST yields and a higher dollar. Last week’s rate cuts by the BOC, SNB, and ECB are likely to carry over into this week with rate cuts from many more central banks. With the Fed expected to signal a pause after its cut, we believe that monetary policy divergences will continue to favor the dollar.

AMERICAS

We believe the divergence story favoring the dollar remains in play. So far, the preliminary December PMIs have been mixed. Eurozone and Japan composite PMIs improved slightly, while Australia fell back below 50 and the U.K. was flat just above 50. China reported weak November data, suggesting its composite will continue to flirt with 50. By our count, five DM central banks and ten major EM central banks meet this week. Sluggish growth across both EM and DM is taking precedence for policymakers and so most central banks remain in easing mode. Elsewhere, the data continue to show that U.S. economic exceptionalism is continuing and that is likely to get the Fed to signal a pause after the expected cut this week. This global backdrop should lead to further gains for the dollar.

S&P Global preliminary December PMIs will be the highlight. Manufacturing is expected to fall two ticks to 49.5, services is expected to fall three ticks to 55.8, and the composite is expected to rise two ticks to 55.1. We believe weakness in the November ISM PMIs was overstated.

December regional Fed surveys start rolling out. Empire manufacturing survey kicks things off today and is expected at 10.0 vs. 31.2 in November. New York Fed services survey will be reported tomorrow. Philly (2.9 expected) and Kansas City Fed manufacturing surveys will be reported Thursday. Kansas City services survey will be reported Friday.

BOC Governor Macklem speaks today. The title of his speech is “Economic factors shaping Canada’s monetary policy.” Last week, Macklem effectively ruled out additional jumbo cuts, stressing that officials will consider further rate cuts but likely at a slower pace. The market is pricing in 75% odds of a 25 bp cut at the next meeting January 29. Tomorrow’s November CPI data will be very important in shaping market expectations but for now, the BOC’s dovish guidance is an ongoing drag for CAD.

EUROPE/MIDDLE EAST/AFRICA

German Chancellor Scholz faces a vote of no confidence today. If passed, it will trigger snap elections February 23. Polls currently show the opposition conservatives under Friedrich Merz lead by a wide margin with support around 31%, followed by the far-right Alternative for Germany at about 18%, and Scholz’s SPD at 17%. Encouragingly, Merz is open to relax the so-called debt brake (which restricts annual structural deficits to 0.35% of GDP in any fiscal year), “if extra borrowing were to boost investment.” Nonetheless, fiscal support to the Germany economy will require time to take shape as the formation of a new coalition government could take weeks or months. That means the ECB will have to do the heavy lifting.

ECB officials remain dovish. President Lagarde reiterated that “Even though we are not there yet, we are close to achieving our target. If the incoming data continue to confirm our baseline, the direction of travel is clear and we expect to lower interest rates further.” Elsewhere, Governing Council member Kazaks warned against taking the policy rate below neutral because growth is not so weak but added that the market’s 2025 easing bets are “not massively out of line.” The swaps market is now pricing in 150 bp of easing over the next 12 months that would see the policy rate bottom near 1.50% vs. 1.75% prior to last week’s 25 bp cut. Guindos, Wunsch, Escriva, and Schnabel also speak today.

Eurozone reported firm preliminary December PMIs. Headline manufacturing came in a tick lower than expected and was steady at 45.2, services came in nearly a full point higher than expected at 51.4 vs. 49.5 in October, and the composite came in over a full point higher than expected at 49.5 vs. 48.3 in November. This was the highest composite since October. Looking at the country breakdown, the German composite came in three ticks higher than expected at 47.8 vs. 47.2 in November while the French composite came in at 46.7 vs. 46.0 expected and 45.9 in November. Italy and Spain will be reported with the final PMIs in early January.

U.K. reported mixed preliminary December PMIs. Manufacturing came in at 47.3 vs. 48.5 expected and 48.0 in November, while services came in at 51.4 vs. 51.0 expected and 50.8 in November. As a result, the composite came in a tick lower than expected and was steady at 50.5. The composite remains above 50, albeit just barely. This suggests Q4 GDP growth is likely to remain very sluggish after eking out a 0.1% q/q gain in Q3. However, rising UK price pressures support a cautious Bank of England easing cycle. Average prices charged by private sector firms increased at the steepest pace for nine months, led by an accelerated rise in the service economy. The BOE is widely expected to keep the policy rate unchanged at 4.75% Thursday. Bottom line: monetary policy trend between the ECB and BOE still favors a lower EUR/GBP.

ASIA

Japan reported firm preliminary December PMIs. Manufacturing rose half a point to 49.5, services rose nearly a point to 51.4, and the composite rose to 50.8 vs. 50.1 in November. This means that the composite has spent two straight months above 50, albeit just barely. This suggests Q4 GDP growth is likely to remain very sluggish after eking out a 0.2% q/q gain in Q3. The data come ahead of the two-day Bank of Japan meeting that ends Thursday with a widely expected hold. The market sees only 15% odds of a hike after several reports emerged that a pause was being considered. The risk is the BOJ paves the way for a January rate hike. The odds of a hike rise to 70% at the January 23-24 meeting, when updated macro forecasts will be released.

Australia reported soft preliminary December PMIs. Manufacturing fell over a point to 48.2, services fell a tick to 50.4, and the composite fell three ticks to 49.9. The composite fell back below 50 after staying above 50 for two straight months, albeit just barely. This suggests Q3’s lackluster growth is carrying over into Q4.

China reported soft November data. IP picked up a tick as expected to 5.4% y/y, sales came in at 3.0% y/y vs. 5.0% expected and 4.8% in October, and FAI came in at 3.3% YTD vs. 3.5% expected and 3.4% in October. In particular, weakness in retail sales is very disappointing in light of the recent stimulus efforts. Commercial banks will set their Loan Prime Rates Friday and are expected to keep them steady. However, policymakers have made it clear that further monetary easing will be seen in 2025. Recent soft data will only make it that much more urgent.

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