The dollar is soft ahead of CPI data. DXY is trading slightly lower near 98.983 after US-China trade talks seemed to yield progress (see below). Sterling is trading flat near $1.3505 ahead of Chancellor Reeves’ spending review (see below), while the euro is trading higher near $1.1440 after the ECB reported its wage tracker (see below). USD/JPY is trading flat near 145. Inflation data and a heavy UST auction schedule this week will keep the market on its toes. CPI data today will be key in determining how tariffs are working their way into the economy.
AMERICAS
We are back to the trade truce between the U.S. and China. Reports suggest the two nations have agreed on a plan to implement the deal agreed to in the Geneva talks last month. Reports suggest that Chinese export curbs on rare earths will be relaxed in exchange for relaxed U.S. export curbs on chips. Negotiators from both sides will now take the proposal back to their respective leaders for approval. However, as we have noted before, the Geneva talks resulted in a temporary truce that still maintains 30% tariffs on Chinese imports. Returning to square one removes the threat of punitive tariffs, at least for now, but we are far from any sort of comprehensive trade agreement that would reduce or eliminate the reciprocal tariffs. No other talks between the two are scheduled now.
May CPI data will be the highlight. Headline is expected at 2.4% y/y vs. 2.3% in April and core is expected at 2.9% y/y vs. 2.8% in April. The Cleveland Fed’s Nowcast model forecasts headline and core at 2.4% and 2.8%, respectively. Looking ahead, that model forecasts June headline and core at 2.7% and 3.0%, respectively. The rising ISM prices paid components point to a reacceleration in inflation pressures. Moreover, the June Fed Beige Book warned that “Prices have increased at a moderate pace since the previous report. There were widespread reports of contacts expecting costs and prices to rise at a faster rate going forward. All District reports indicated that higher tariff rates were putting upward pressure on costs and prices.” PPI will be reported tomorrow.
The Fed media blackout remains in effect this week. While the data have been a bit mixed, the overall picture supports the prevailing Fed view that it can be patient. The market sees no chance of a cut next week, only around 15% odds of a cut in July, and around 66% odds of a cut in September. A cut is not fully priced in until the October meeting. Furthermore, the swaps market is pricing in 75 bp of total easing over the next 12 months. The Fed outlook will be tested by this week’s inflation data.
The heavy UST supply continues with today’s $39 bln auction of 10-year notes. At the last auction in May, the bid/cover was 2.60 and indirect bidders took 71.2%. Yesterday, there was fairly strong demand for the $58 bln of 3-year notes sold. The bid/cover was 2.52 vs. 2.56 in May while indirect bidders took 66.8% vs. 62.4% in May. However, demand for the long end of the curve is really being questioned right now. Tomorrow, $22 bln of 30-year bonds will be sold.
Reports suggest Treasury Secretary Bessent is in the running for the post of Fed Chair. While this seems like a bit of a long shot, his choice would go against the spirit of a truly independent Fed. Yes, Janet Yellen held both posts but she was Fed Chair first before taking on the more political post at Treasury. Moving from Treasury to the Fed, we think Bessent would be eyed with suspicion by the markets as to where his allegiances lie. Of note, the story goes that Trump originally wanted to go with former Governor Warsh as Fed Chair back in 2017 but was pressed to pick Powell by his advisors. It would be interesting if he went full circle and picked Warsh this time. That said, recent comments suggest Warsh may be too hawkish for Trump’s liking.
EUROPE/MIDDLE EAST/AFRICA
European Central Bank reported its wage tracker. The forward-looking wage tracker with unsmoothed one-off payments (which closely matches the policy relevant indicator of negotiated wages) indicates average negotiated wage growth of 2.9% y/y in 2025 vs. 2.8% seen in April. It also sees wage growth of 1.7% y/y in Q4 vs. 1.6% seen in April. Overall, these rates of wage growth remains consistent with the ECB’s 2% inflation target given annual productivity growth of 0.4%. The ECB’s easing cycle is almost finished and underpins a firm EUR. The swaps market is still pricing in 50 bp of total easing over the next 12 months and we see risks that the ECB delivers only one more 25 bp cut this cycle.
U.K. Chancellor of the Exchequer Reeves will deliver the government’s spending review shortly. The spending review sets out multi-year spending envelopes for each government department and is unlikely to have a meaningful impact on financial markets. However, watch out for any hints that Reeves will break her self-imposed fiscal rules, as well as any plans to increase gilt issuance.
ASIA
USD/HKD is testing the upper end of its 7.7500-7.8500 band. The sharp upward adjustment to USD/HKD in the past month was triggered by the Hong Kong Monetary Authority’s FX intervention in early May. HKMA sold HKD129.4 bln ($16.7 bln) to defend the strong end of the currency peg when it was trading as low as 7.7500. That intervention boosted HKD liquidity and led to a substantial drop in Hong Kong interbank borrowing costs. One-month HIBOR dropped from nearly 4.00% to 0.60%, while the equivalent US rate remains near 4.3%. The large spread between the US and Hong Kong rates is fueling a carry trade (borrow HKD, lending USD) and pushing USD/HKD towards the top side of the band. This is not sustainable and soon the HKMA will need to drain excess liquidity by selling USD for HKD. For now, HKMA’s Aggregate Balance (which reflects how much spare cash banks have in the HKD system) remains elevated, suggesting HKD liquidity remains flush.
