Dollar Flat as Markets Await Fresh Drivers

June 23, 2021
  • Fed Chair Powell delivered no surprises in his Congressional testimony yesterday; we believe tapering is closer than markets appreciate; Markit preliminary June PMI readings will be the highlight; minutes from Brazilian Central Bank (BCB) were decidedly hawkish
  • U.K. reported soft preliminary June PMI readings; eurozone reported firm preliminary June PMI readings; Czech Republic is expected to hike rates 25 bp to 0.50%; yesterday, Hungary became the first in Europe to hike rates
  • Japan reported soft preliminary June PMI readings; Australia reported preliminary June PMI readings and May trade data; RBA Assistant Governor Ellis spoke overnight; Thailand delivered a dovish hold, as expected

The dollar is treading water as markets await fresh drivers. DXY is trading nearly unchanged just below 92.1 and is getting some modest traction after two straight down days. The euro has poked above $1.19 but is having trouble moving above $1.1950, while sterling has poked above $1.39 and is trading near $1.40. Lastly, USD/JPY continues to edge higher and is making new highs for this year above 111. The March 2020 high near 111.70 is the next target, followed by the February 2020 high near 112.25 and the April 2019 high near 112.40.

AMERICAS

Fed Chair Powell delivered no surprises in his Congressional testimony yesterday. He underscored that the Fed is a long way from hiking rates, though he acknowledged that inflation has come in higher than anticipated and could remain high for longer than anticipated. Elsewhere, Daly and Mester both said yesterday that they want to wait until later in the year to make a decision on tapering. Bowman, Bostic, and Rosengren speak today.

While it is true that rate hikes from the Fed remain far off, we believe tapering is closer than markets appreciate. Consensus for June jobs is currently at 690k vs 559k in May. A solid number July 2 would likely lead the Fed to intensify its tapering discussions at the July 27-28 FOMC meeting. The Jackson Hole Symposium at the end of August offers another opportunity for the Fed to flag tapering, with the September 21-22 FOMC meeting coming into focus for a potential announcement. New macro forecasts and Dot Plots will be released at that meeting and offers the perfect opportunity for the Fed to pivot towards tapering by year-end. We look for further dollar gains as a result.

Markit preliminary June PMI readings will be the highlight today. Manufacturing PMI is expected at 61.5 vs. 62.1 in May while services PMI is expected at 70.0 vs. 70.4 in May. This would lead to a slight drop in the composite PMI from 68.7 in May, which would still remain at extremely high levels. Yesterday, Richmond Fed June manufacturing survey came in at 22 vs. 18 expected and actual in May. Kansas City reports Thursday and is expected at 24 vs. 26 in May. While there are modest downside risks to this week’s survey readings, the U.S. economy remains in solid shape, still growing robustly but at a slightly slower pace. Q1 current account data (-$206.5 bln expected) and May new home sales (0.9% m/m expected) will also be reported.

The latest minutes from Brazilian Central Bank (BCB) were decidedly hawkish, but we resist the temptation to call for a larger hike in the next meeting. Officials considered a larger hike last week in light of improving growth and elevated core and headline inflation readings. Still, they reinforced their “unequivocal commitment” to bring inflation to the target. We think the combination of (a) a frontloaded cycle, (b) convincing hawkish commitment, and (c) strong BRL appreciation will be enough to keep the BCB at the current pace. The currency broke the key R$5.00 level yesterday, as we expected, and we think there is more room to go.

EUROPE/MIDDLE EAST/AFRICA

U.K. reported soft preliminary June PMI readings. Headline manufacturing PMI came in at 64.2 vs. 64.0 expected and 65.6 in May, while services PMI came in at 61.7 vs. 62.8 expected and 62.9 in May. This dragged the composite PMI lower to 61.7 vs. 62.5 expected and 62.9 in April. This was the first drop in the composite since January, though it remains extremely high by historical standards. After last week’s downside miss in retail sales, there appear to be some modest downside risks to the data as pandemic restrictions were extended into next month due to rising virus numbers.

 Bank of England decision will be announced tomorrow. While the bank has been upbeat over the last couple of meetings, recent U.K. developments argue for some caution and acknowledgment of some downside risks forming. Given that the BOE announced tapering at its last meeting May 5, it also seems too soon to announce any more changes this week. Next set of updated macro forecasts will come at the August 5 meeting and so that seems to be the likely timing for a potential next round of tapering.

Eurozone reported firm preliminary June PMI readings. Headline manufacturing PMI came in at 63.1 vs. 62.3 expected and 63.1 in May, while services PMI came in at the consensus 58.0 vs. 55.2 in May. This pushed the composite PMI up to 59.2 vs. 58.8 expected and 57.1 in May, and was the fifth straight monthly rise. Looking at the country breakdown, the German composite jumped to 60.4 vs. 57.6 expected and 56.2 in May, while the French composite came in at 57.1 vs. 59.0 expected and 57.0 in May. ECB’s Guindos and Lagarde speak today. Despite recent firmness in the economic data, it’s clear that policymakers remain focused on downside risks. As such, expect dovish comments from Guindos and Lagarde to hit the tapes.

Czech National Bank is expected to hike rates 25 bp to 0.50%. A couple of analysts look for steady rates, but the bank has been pretty clear that it intends to hike sooner rather than later. Of note, the central bank’s model shows three hikes in 2021 but that seems too hawkish to us. Bloomberg consensus sees a year-end rate of 0.75%, rising to 1.5% by end-2022. Much will depend on the exchange rate. Central bank models suggest each 1 percentage point move in the currency is equivalent to a 25 bp move in the policy rate.

Yesterday, Hungary became the first in Europe to hike rates. It delivered the expected 30 bp hike in the base rate to 0.90%. However, the bank surprised markets by pledging monthly hikes going forward until “inflation risks become evenly balanced.” The bank will also phase out its funding program to provide cheap corporate loans but confirmed that it will maintain its government bond purchases for now. Next policy meeting is July 27 and another hike is likely given its unexpectedly hawkish stance.

ASIA

Japan reported soft preliminary June PMI readings. Headline manufacturing PMI came in at 51.5 vs. 53.0 in May, while services PMI came in at 47.2 vs. 46.5 in May. This dragged the composite PMI lower to 47.8 vs. 48.8 in May. This was the second straight monthly drop in the composite to the lowest level since January, and slides further below the key 50 boom/bust level. Q2 is shaping up to be a bad one for the economy, but there is hope for Q3 as the vaccine rollout picks up.

Australia reported preliminary June PMI readings and May trade data. Headline manufacturing PMI came in at 58.4 vs. 60.4 in May, while services PMI came in at 56.0 vs. 58.0 in May. This dragged the composite PMI lower to 56.1 vs. 58.0 in May. This was the second straight monthly drop in the composite but remains extremely high by historical standards.

RBA Assistant Governor Ellis spoke overnight. She said that loose monetary policy is enabling “any structural adjustments” that might be needed in the economy during the current post-pandemic recovery, noting “It is far easier for a firm to change business models when demand is robust, and far easier for a worker to switch industries or careers when there are plenty of jobs available. To the extent that the post-pandemic world is indeed different from the pre-pandemic one, a robust recovery and expansion can smooth the transition.” Yet she warned that “The pandemic is not over. That means ensuring that demand continues to be supported for as long as spare capacity remains. Absorbing spare capacity and achieving full employment is an important national priority.” Of note, rising virus numbers in Sydney have led to travel and social gathering restrictions being reinstated temporarily.

RBA officials have sounded fairly upbeat recently but have not given any indications on what its plans are for QE at the July 6 meeting. We believe the RBA will extend the program at its current pace but move to a more flexible QE program subject to more frequent reviews. This would set the table for likely tapering in H2 if the labor market continues to heal. Of note, a major Australian bank is now calling for rate lift-off in November 2022, one-upping the noted RBA-watcher from Down Under calling for early Q1 23.

Bank of Thailand delivered a dovish hold, as expected. It kept rates steady at 0.5% but cut its 2021 growth forecast to 1.8% from 3.0% previously due largely to the sharp fall in tourism. At the last meeting May 5, the bank had warned that the most recent viral outbreak would impact the recovery. Of note, the Finance Ministry last month cut its 2021 growth forecast to 2.3% from 2.8% previously. Assistant Governor Titanun said the bank “stands ready to use limited policy space at the most effective timing. Loans and debt restructuring will be more targeted to help businesses and households than lowering interest rates.” We expect rates are likely to remain on hold through 2022, with risks of further backdoor easing via macroprudential measures.

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