Dollar Flat as New Week, Month, and Quarter Begin

April 03, 2023

Win Thin

Another weekend passed and there were no more bank failures; the need for global central banks to maintain hawkish stances is likely to be cemented by the OPEC+ decision to cut oil output; Fed tightening expectations still need to adjust higher; ISM March manufacturing PMI will be the data highlight; BOC publishes its Q1 business outlook survey
Eurozone final March PMI readings were reported; BOE Chief Economist Pill stressed that policy remains data dependent; Switzerland reported soft March CPI data; Israel is expected to hike rates 25 bp to 4.5%
BOJ Q1 Tankan survey came in soft; Caixin reported a soft March manufacturing PMI reading

The dollar is trading flat as a new week, month, and quarter gets under way. DXY is trading flat near 102.471 after trading above 103 earlier today. The euro is trading higher near $1.0870 while sterling is trading higher near $1.2365. USD/JPY finally broke above 133 Friday and traded as high as 133.75 today before falling back slightly to near 133.25 currently. With the BOJ seen on hold for the foreseeable future and banking sector tensions easing, we believe USD/JPY remains a buy at current depressed levels. Bottom line: we expect the dollar rally to resume after this current bout of market turmoil fades and markets are once again able to focus on the fundamentals. A necessary but not sufficient condition is market repricing of Fed tightening expectations (see below).

AMERICAS

Another weekend passed and there were no more bank failures. Is it too early to sound the all clear? Yes, but markets are slowly returning to normal while policymakers have so far been justified in looking through the banking sector stresses and focusing monetary policy on inflation. This week, the RBNZ is likely to follow the Fed, ECB, SNB, and BOE in hiking rates during a period of heightened banking sector stresses. The RBA is not expected to follow suit this week but it had already flagged a likely pause back at its last meeting March 7, before SVB collapsed. Comments last week by Fed officials underscore the view that the banking crisis will be addressed with changes in regulatory policy, not monetary policy. That emphasis should be maintained by the Fed in the runup to the next FOMC meeting.

The need for global central banks to maintain hawkish stances is likely to be cemented by the OPEC+ decision this weekend to cut oil output. Output will be cut 1.1 mln bbl/day starting next month but since Russia said it will extend its already announced 500k bbl/day cut for Q2 through year-end, this means total OPEC+ output will fall 1.6 mln bbl/day in H2. OPEC+ is playing with fire as higher oil prices will increase the odds of a global recession this year.

Fed tightening expectations still need to adjust higher. WIRP suggests around 65% odds of 25 bp hike at the May 2-3 meeting. After that, it’s all about the cuts. Nearly two cuts by year-end are priced in. In that regard, Powell said that Fed officials “just don’t see” any rate cuts this year. Last week’s PCE data were mixed. While headline and core both came in a tick lower than expected, super core accelerated for a second straight month to 4.63% y/y and is the highest since October. This is not the direction that the Fed desires and so we look for the hawkish tilt in Fed comments to continue. Cook speaks today.

ISM March manufacturing PMI will be the data highlight. Headline is expected at 47.5 vs. 47.7 in February. Keep an eye on prices paid (51.1 expected vs. 51.3 in February) and new orders (47.5 expected vs. 47.0 in February). Of note, employment stood at 49.1 in February. Services will be reported Wednesday and headline is expected at 54.3 vs. 55.1 in February. Of note, preliminary March S&P Global PMIs came in much stronger than expected, with the composite rising to 53.3 vs. 51.1 in February. This was the highest since last May. Last week, Chicago PMI came in at 43.8 vs. 43.0 expected and 43.6 in February. February construction spending (flat m/m expected) and March vehicle sales (14.60 mln annual rate expected) will also be reported.

Bank of Canada publishes its Q1 business outlook survey. S&P Global manufacturing PMI will also be reported. The BOC next meets April 12 and WIRP suggests nearly 15% odds of a rate cut then, and is fully priced in by October. A cut this year seems very unlikely.

EUROPE/MIDDLE EAST/AFRICA

Eurozone final March PMI readings were reported. Headline manufacturing came in at 47.3 vs. 47.1 preliminary. Germany was revised up to 44.7 vs. 44.4 preliminary while France was revised down to 47.3 vs. 47.7 preliminary. Italy and Spain reported for the first time and came in at 51.1 and 51.3, respectively. Final services and composite PMIs will be reported Wednesday.

Markets have repriced the ECB tightening outlook upwards. The next policy meeting is May 4 and WIRP suggests nearly 90% odds of a 25 bp hike then. After that, another 25 bp hike is priced in for July 27. After that, odds of one last 25 bp hike top out near 40% in October and so the peak policy rate is now seen near 3.50%, up from 3.25% during the height of the banking panic. ECB speakers are likely to show the ongoing split between the hawks and the doves. Simkus and Vujcic speak today.

Bank of England Chief Economist Pill stressed that policy remains data dependent. He said inflation remains too high but stuck with the bank’s forecast that it will fall sharply this year. Pill added that “We raised rates by 400 bp. These measures take up to eighteen months to take effect. Should more be done? We will have to see how inflation evolves.” Regarding future policy, Pill noted that “For inflation to return to its target, developments in the labor market, which remains tight, will also be decisive. Have companies, on the other hand, raised prices to improve their margins? Do they still have the capacity to do so?” BOE tightening expectations remain subdued. The next policy meeting is May 11 and WIRP suggests around 75% odds of a 25 bp hike, with odds of another 25 bp hike topping out near 75% in Q3. As a result, the peak policy rate is now seen between 4.50-4.75%, up from 4.25% during the height of the banking panic.

Switzerland reported soft March CPI data. Headline came in at 2.9% y/y vs. 3.2% expected and 3.4% in February, while core came in at 2.2% y/y vs. 2.5% expected and 2.4% in February. Last month, the bank hiked rates 50 bp to 1.5% and flagged more hikes ahead as Governor Jordan said “It cannot be ruled out that additional rises in the SNB policy rate will be necessary to ensure price stability over the medium term.” We concur. The market is pricing in a peak policy rate between 2.0-2.5%, which seems about right but will of course be data dependent.

Bank of Israel is expected to hike rates 25 bp to 4.5%. At the previous meeting February 20, the bank delivered a hawkish surprise with a 50 bp hike to 4.25% vs. 25 bp expected. Deputy Governor Abir said future policy will be “very data-dependent” but took a hawkish tone, noting that recent data suggest inflation is “pretty sticky, particularly in the services sector.” Abir said the weak shekel, strong growth, and accelerating inflation were behind the hawkish surprise. Lastly, Abir said the bank was unsure of how much further it needs to tighten monetary policy since “it works with lags.” Of note, CPI rose 5.2% y/y in February, the first deceleration since last August but still well above the 1-3% target range.

ASIA

Bank of Japan Q1 Tankan survey came in soft. Large manufacturing index came in at 1 vs. 3 expected and 7 in Q4 while large manufacturing outlook came in as expected at 3 vs. 6 in Q4. The large manufacturing index has fallen five straight quarters to the lowest in two years. Large non-manufacturing came in as expected at 20 vs. 19 in Q4 while large non-manufacturing outlook came in at 15 vs. 17 expected and 11 in Q4. Lastly, all-industry capex came in at 3.2% vs. 14.2% expected 19.2% in Q4. Final March manufacturing PMI came in at 49.6 vs. 48.6 in February.

Recent data should keep the Bank of Japan on hold for now. WIRP suggests no odds of liftoff April 28, rising to around 20% June 16 and 45% for July 28. A hike isn’t priced in until October 31. In addition, the subsequent tightening path is seen as very mild as the market is pricing in only 15 bp of tightening over the next 12 months followed by only 20 bp more over the subsequent 24 months. That is why we expect any knee-jerk drop in USD/JPY after liftoff to be fairly limited.

Caixin reported a soft March manufacturing PMI reading. It came in at 50.0 vs. 51.4 expected and 51.6 in February and was the lowest since January. Caixin reports its services and composite PMI readings Thursday. Services is expected to remain steady at 55.0. The Caixin reading will certainly raise doubt about the official PMIs last week, when manufacturing came in at 51.9 vs. 51.6 expected and 52.6 in February while non-manufacturing came in at 58.2 vs. 55.0 expected and 56.3 in February. As a result, the official composite PMI rose to 57.0 vs. 56.4 in February. The Caixin reading supports our view that the impact of China reopening has yet to make a significant impact on regional trade and activity.

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