Dollar Mixed Ahead of FOMC Decision

December 18, 2024

Win Thin

Two-day FOMC meeting ends today with an expected 25 bp cut; Chair Powell’s press conference will be important; updated macro forecasts and Dot Plots will be hawkish; November retail sales data were solid; Canada reported mixed November CPI data; Chile releases its quarterly monetary policy report
Eurozone final November CPI data were revised down; U.K. reported November CPI data; Hungary delivered a hawkish hold
Two-day BOJ meeting began today; Japan reported mixed November trade data; Australia raised its budget deficit projections; New Zealand reported Q3 current account data; Thailand and Indonesia kept rates steady, as expected

The dollar is mixed ahead of the FOMC decision. DXY is trading flat near 106.923. USD/JPY is trading higher near 153.65 ahead of the BOJ meeting tomorrow. Sterling is trading flat near $1.2710 after U.K. CPI data (see below), while the euro is trading higher near $1.05. AUD and NZD are underperforming and trading at new lows for this cycle. We look for the dollar rally to continue after the expected 25 bp cut by the Fed (see below) due to the ongoing the economic divergence story. 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 continue in the coming months, with other central banks like Norges Bank and RBA likely to start easing. With the Fed likely to signal an extended pause after this cut, we believe that monetary policy divergences will continue to favor the dollar.

AMERICAS

The two-day FOMC meeting ends today with an expected 25 bp cut. The swaps market has fully priced in a cut, but 9 of the 112 analysts polled by Bloomberg look for steady rates. We believe the data support a pause now, as the U.S. economy is robust, progress on inflation is stalling well above 2%, and financial conditions are very loose. However, we expect the Fed to match market expectations and cut today whilst preparing the market for an extended pause. We see significant risk that at least one FOMC member (Fed Governor Bowman) dissents in favor of keeping rates on hold.

Chair Powell’s press conference will be important. In his last public speech December 4 before the media blackout, Powell maintained a cautious tone. He said that “We can afford to be a little more cautious as we try to find neutral.” With regards to the September cut, Powell stressed that "We wanted to send a strong signal that we were going to support the labor market if it continued to weaken." However, he added that "The economy is strong, and it's stronger than we thought it was going to be in September." He doesn’t sound like he was in a hurry to cut rates and nothing we’ve seen since then will have changed his mind.

Updated macro forecasts and Dot Plots will be hawkish. Given the recent data, we look for upward revisions in the growth and inflation forecasts that support a hawkish shift in the Dot Plots. The 2025 median dot was 3.375% in September, signifying four cuts. We think the median will shift to 3.625%, with some risks of 3.875%. The 2026 and 2027 median dots were both 2.875% in September. Here too, we look for both medians to shift from 2.875% in September to 3.125% and again with some risks of 3.375%. Lastly, the long-term median dot was 2.875% in the September Dots. We look for a shift in the median from 2.875% in September to 3.0%.

November retail sales data were solid. Headline came in a tick higher than expected at 0.7% m/m vs. a revised 0.5% (was 0.4%) in October, ex-autos came in two ticks lower than expected at 0.2% m/m vs. a revised 0.2% (was 0.1%) in October, and the so-called control group used for GDP calculations came in as expected at 0.4% m/m vs. -0.1% in October. In y/y terms, headline rose 3.8% vs. 2.9% in October, ex-autos rose 3.2% vs. 2.7% in October, and the so-called control group rose 4.3% vs. 3.7% in October. The control group reading was the strongest since March and all these readings bode well for personal spending data out Friday.

Growth remains robust. The Atlanta Fed GDPNow model has Q4 growth at 3.1% SAAR and will be updated today after the data. Elsewhere, the New York Fed's Nowcast model is tracking Q4 growth at 1.9% SAAR and Q1 growth at 2.3% SAAR and will be updated Friday. Of note, we get the final revision to Q3 growth tomorrow and it is expected to remain steady at 2.8% SAAR, while personal consumption is expected to pick up a tick to 3.6% SAAR.

Key housing data will be reported. November building permits and housing starts are expected at 1.0% m/m and 2.6% m/m, respectively. Existing home sales will be reported tomorrow and are expected at 3.3% m/m vs. 3.4% in October. Yesterday, December NAHB housing market confidence came in a point lower than expected and remained steady at 46 and its present sales index also remained steady at 48.

Canada reported mixed November CPI data. Headline came in a tick lower than expected at 1.9% y/y vs. 2.0% in October, while core median came in two ticks higher than expected at 2.6% y/y vs. a revised 2.6% (was 2.5%) in October and core trim came in a tick higher than expected at 2.7% y/y vs. a revised 2.7% (was 2.6%) in October. Headline remained at or below the 2% target for the fourth straight month. The BOC has room to ease further, but at a slower pace as core inflation is tracking above the bank’s Q4 projection of 2.3%. Monetary policy divergences the Fed and BOC still favor a higher USD/CAD.

Chile central bank releases its quarterly monetary policy report. Yesterday, the bank cut rates 25 bp to 5.0%, as expected. The decision was unanimous and the bank said future moves will be data-dependent. It noted that the short-term risks to inflation are to the upside but that weak demand should mitigate those risks in the medium-term. The swaps market is pricing in 50 bp of further easing over the next 12 months that would see the terminal rate bottom at 4.5% vs. 4.75% at the start of this week.

EUROPE/MIDDLE EAST/AFRICA

Eurozone final November CPI data were revised down. Headline came in a tick lower than the preliminary at 2.2%, while core was unchanged at 2.7% y/y. This won’t move the needle on ECB policy, however. The swaps market is still 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.

U.K. reported November CPI data. Headline came in as expected at 2.6% y/y vs. 2.3% in October, core came in a tick lower than expected at 3.5% y/y vs. 3.3% in October, and CPIH came in as expected at 3.5% y/y vs. 3.2% in October. Headline was the highest since March and moves further above the 2% target. Of note, services inflation was steady at 5.0% y/y. Stubbornly high services inflation argues for a cautious easing cycle. Indeed, the Bank of England meeting ends tomorrow with a widely expected hold. We also expect the BOE to reiterate that “monetary policy will need to continue to remain restrictive for sufficiently long.” Markets are now pricing in 50 bp of easing over the next 12 months vs. 75 bp at the start of this week.

National Bank of Hungary delivered a hawkish hold. As was widely expected, the bank kept the policy rate steady at 6.50%. Only one MPC member recommended a rate cut suggesting the bar for the bank to resume easing is high. Indeed, NBH emphasized that “geopolitical tensions, volatile financial market developments and the risks to the outlook for inflation warrant further pause in cutting interest rates.” The market implies just one 25bps cut over the next 12 months.

ASIA

The two-day Bank of Japan meeting began today. The market sees less than 15% odds of a hike after several recent reports 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 60% at the January 23-24 meeting, when updated macro forecasts will be released. USD/JPY has retraced some of its recent gains ahead of the decision but if the BOJ does deliver a hold tomorrow, the pair is likely to test the 155 area.

Japan reported mixed November trade data. Exports came in at 3.8% y/y vs. 2.5% expected and 3.1% in October, while imports came in at -3.8% y/y vs. 0.8% expected and 0.4% in October.

Australia raised its budget deficit projections for FY2025/26 through FY2027/28. Nevertheless, the structural budget balance estimates - which adjusts for temporary factors - are broadly in line with estimates in the FY2024/25 budget and should not complicate the RBA’s job. Indeed, Australia’s 10-year government bond yields remain near recent lows, ignoring the mid-year fiscal review.

New Zealand reported Q3 current account data. The deficit narrowed to -6.4% of GDP vs. -6.6% expected and a revised -6.6% (was -6.7%) in Q2. The deficit still remains large by historical standards, suggesting NZD needs to keep trading at a deep discount to fundamental equilibrium to attract foreign investment and finance this deficit. We estimate long-term fundamental equilibrium for NZD at 0.6610, while it is currently trading at new lows for this cycle near .5725 and is on track to test the October 2022 low near 0.5510.

Bank of Thailand kept rates steady at 2.25%, as expected. The vote was unanimous. Assistant Governor Sakkapop Panyanukul said “We remain neutral - we are not stepping on the brake and we are not accelerating. Over the short term, the economic recovery remains on track, but we see higher risks ahead.” The swaps market is still pricing in 50 bp of easing over the next 12 months that would see the policy rate bottom near 1.75%.

Bank Indonesia kept rates steady at 6.0%, as expected. However, nearly half the analysts polled by Bloomberg saw a 25 bp cut to 5.75%. Governor Warjiyo said, “The focus of monetary policy is directed at strengthening the stability of the rupiah exchange rate from the impact of heightened global economic uncertainty due to U.S. policy direction and escalation of geopolitical tensions in various regions.” He added that “In latest board meeting over the past two days, we were assessing Trump’s policy steps in the U.S. because it affects the stability of global financial markets and impacts how we have to stabilize the rupiah and formulate monetary policy.” Until the rupiah stabilizes, rates are likely to be kept on hold.

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