Dollar Gains Ground, US Yield Curve Steepens

September 09, 2024

Dollar Gains Ground, US Yield Curve Steepens

  • US labor market is cooling, indicative of moderate economic growth and not a recession.
  • China’s economy is still struggling to escape deflationary risks.
  • Iron ore future prices slump to fresh cyclical lows. US and European equity futures point to a positive open.

Please see our Drivers for the Week Ahead for an in-depth look at what markets are facing this week.

USD is building on Friday’s recovery. The August non-farm payrolls report remained consistent with softer labor market conditions and low US recession odds. Employment expanded less than predicted in August, but the unemployment rate dipped on a steady participation rate and wage growth overshot expectations. Meanwhile, the US yield curve (10 minus 2-year Treasury yields) un-inverted for the first time since July 2022 in line with other economic data indicating an encouraging US growth outlook.

Importantly, the time has come for the Fed to start cutting the funds rate. Fed funds futures have fully priced-in a 25bps cut at the upcoming September 18 meeting and are pricing an additional 30% chance of a 50bps cut. The US August CPI report will help shape the magnitude of the Fed’s September rate cut decision. We see upside risks to the data because of the increase in the ISM services and manufacturing prices paid indexes. As such, higher than expected US inflation in August can reduce the probably of a jumbo Fed funds rate cut in September and underpin a firmer USD.

The New York Fed inflation expectations of consumers survey is today’s data highlight (4:00pm London). US inflation expectations are drifting lower, giving the Fed the green light to start easing policy this month.

EUR/USD is heavy under 1.1080. The Eurozone September Sentix investor confidence index is expected to remain indicative of weaker economic activity (9:30am London). In August, the overall index fell 6.6pts to -13.9, the lowest level since January. Regardless, EUR will take its cue from Thursday’s ECB Policy-setting meeting and update macroeconomic projections.

AUD/USD faces additional downside pressure as iron ore future prices plunged to fresh cyclical lows. The deeper downturn in global manufacturing activity is weighing on the commodity complex. Australia September consumer and August business confidence indexes (both tomorrow) are this week’s domestic data highlights.

USD/CNH rallied above 7.1100. China’s economy keeps struggling to escape deflationary risks. In August, China headline CPI inflation quickened less than expected to an annual pace of 0.6% (consensus: 0.7%) from 0.5% in July. Food prices made the biggest contribution to CPI inflation. Core CPI inflation matched the March 2021 low and slowed to an annual pace of 0.3% vs. 0.4% in July. Finally, PPI fell the most in four months by -1.8% y/y vs -0.8% in July and keeps adding downside pressure to CPI inflation. To escape the debt-deflation loop, Chinese policymakers need to ramp-up fiscal measures to boost consumption growth. China's consumption-to-GDP ratio is very low at round 30%, in large part due to high household savings.

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