Dollar Remains Under Pressure

January 09, 2023
  • Markets are still digesting Friday’s data; the U.S. economy remains firm overall; the notion of a Fed pivot continues to gain credence; we continue to believe markets are underestimating the Fed; Brazil political risk has ramped up again; Mexico reports December CPI
  • Germany reported November IP; ECB tightening expectations steadied; survey suggests U.K. manufacturing firms are likely to cut jobs and output due to higher energy costs despite government support; BOE tightening expectations remain steady
  • Reports suggest China will boost the quota for special local government bond issuance this year to a record high CNY3.8 trln

The dollar remains under pressure in the wake of Friday’s data. DXY is down for the second straight day and trading back near the cycle low from December 30 near 103.391. The euro is trading just below $1.07 and sterling is trading near $1.2150. USD/JPY is trading near 132.50 as the yen underperforms in this current risk on environment. We continue to believe that dollar weakness in late 2022 was overdone and we expect the greenback to claw back much of those losses in the coming weeks and months. We believe expectations of a pivot are overdone too and see room for Fed tightening expectations to move higher, especially after the strong message being sent by Fed officials and the FOMC minutes last week.


Markets are still digesting Friday’s data. The jobs report was strong overall as unemployment dropped back to the cycle low of 3.5%, supporting the view that the labor market remains red hot. However, markets focused on the bigger than expected drop in average hourly earnings to 4.6% y/y, the lowest since . We warn that if the labor market remains as tight as it seems, wages are unlikely to fall much further in the coming months. Later Friday morning, we got an unequivocally bad ISM services report. The 49.6 headline was the lowest since May 2020 and the details were just as bad, with employment falling to 49.8 and activity falling ten full points to 54.7.

The U.S. economy remains firm overall. The Atlanta Fed’s GDPNow model is tracking 3.8% SAAR growth in Q4, down from 3.9% previously. The next model update will come tomorrow. Of note, Bloomberg consensus sees SAAR growth slowing from 3.2% in Q3 to 1.1% in Q4 and 0.1% in Q1, which seems too low in light of recent data. Today, only November consumer credit will be reported and is expected at $25.0 bln vs. $27.1 bln in October.

The notion of a Fed pivot continues to gain credence. We wholeheartedly disagree. Minutes released last week from the December FOMC meeting made it clear that the Fed is concerned about a premature loosening of financial conditions. According to the Chicago Fed’s measure, financial conditions have loosened steadily from mid-October through yearend. Fed speakers this week should continue to push back against this. Bostic and Daly speak today. Neither are voters this year.

We continue to believe markets are underestimating the Fed. WIRP suggests a 25 bp hike February 1 is fully priced in, with nearly 30% odds of a larger 50 bp move. Another 25 bp hike March 22 is fully priced in, while one last 25 bp hike in Q2 is nearly 50% priced in that would take the Fed Funds rate ceiling up to 5.25%. However, the swaps market continues to price in an easing cycle by year-end and we just don’t see that happening.

Brazil political risk has ramped up again. Sunday, thousands of supporters of former Brazilian President Bolsonaro stormed the presidential palace, congress, and the supreme court in Brasilia before security forces were able to regain control of the capital. Protestors called for the military to take over and hundreds have been arrested so far. There have been accusations of inside help, with PT President Hoffmann criticizing officials in Brasilia for not preventing the unrest. Elsewhere, Justice de Moraes ordered Federal District Governor Rocha removed from office for 90 days while his role in the security breach is investigated. President Lula and most of the government institutions were not in Brasilia at the time but will return today to scenes of wreckage and mayhem. Of note, Bolsonaro traveled to Florida before Lula’s inauguration and has been spotted at Kentucky Fried Chicken and Publix. Investors had breathed a sigh of relief with the peaceful transition of power January 1 but it’s clear that all is not well. Expect Brazil assets to sell off today.

Mexico reports December CPI. Headline is expected at 7.84% y/y vs. 7.80% in November, while core is expected at 8.35% y/y vs. 8.51% in November. If so, headline would accelerate for the first time since August while core would decelerate for the first time since November 2020. At the last policy meeting December 15, Banco de Mexico hiked rates 50 bp to 10.50% and said “The Board considers it will still be necessary to raise the reference rate in its next monetary policy meeting” February 9. It added that “Subsequently, it will assess if the reference rate needs to be further adjusted as well as the pace of adjustments based on the prevailing conditions.” While the market is pricing in 25 bp, we expect another 50 bp hike to 11.0% next month. The swaps market is pricing in a peak policy rate near 11.0% but much will depend on how inflation develops and also on Fed policy. November IP will be reported Wednesday.


Germany reported November IP. It came in a tick lower than expected at 0.2% m/m vs. a revised -0.4% (was -0.1%) in October. As a result, the y/y rate has been negative for two straight months. France and Spain report tomorrow and are expected at -1.0% m/m and -0.5% m/m, respectively. Italy reports November retail sales Wednesday, followed by IP Friday that is expected at 0.3% m/m vs. -1.0% in October. Eurozone-wide IP and trade data will also be reported Friday and is expected at 0.5% m/m vs. -2.0% in October.

ECB tightening expectations steadied. WIRP suggests a 50 bp hike February 2 is almost fully priced in, followed by 75% odds of another 50 bp hike March 16. A 25 bp hike May 4 is priced in, while a last 25 bp hike in Q3 is about 75% priced in that would see the deposit rate peak near 3.5% vs. 3.75% last week. If inflation continues to slow, the expected peak rate is likely to move closer to 3.25% and perhaps even to 3.0%, which is where it stood back in mid-December.

Survey suggests U.K. manufacturing firms are likely to cut jobs and output due to higher energy costs despite government support. The lobbying group Make U.K. surveyed 235 manufacturing companies in November. Make UK official said “The biggest risk remains the eye watering increases in energy costs which has left the clock ticking for many companies. While an extension of the energy relief scheme will be welcome, to date it has just been a sticking plaster. Making it less generous will make the situation worse for many companies.” This week, Chancellor Hunt is expected to announce cuts in its energy aid for companies, which the Treasury says is “unsustainably expensive.”

BOE tightening expectations remain steady. WIRP suggests over 70% odds of a 50 bp hike February 2, while a 25 bp hike March 23 is now priced in rather than 50 bp previously. After that, a 25 bp hike is nearly priced in May 11 that would see the policy rate peak near 4.5%. The market seems some odds of final 25 bp hike in Q3 but much will depend on how the economic outlook has evolved by mid-year. Chief Economist Pill speaks today.


Reports suggest China will boost the quota for special local government bond issuance this year to a record high CNY3.8 trln. This would go hand in hand with a wider budget deficit target for the year as policymakers focus on growth. The previous record was CNY3.75 trln. Elsewhere, senior PBOC official Guo said growth would soon return to “normal” as policymakers provide more support to households and private companies. Guo added that “The key to the economic recovery is to convert current total income to consumption and investment to the largest possible extent.” China reports December money and loan data sometime this week. New loans are expected at CNY1.09 trln vs. CNY1.21 trln in November, while aggregate financing is expected at CNY1.58 trln vs. CNY1.99 trln in November. The economy is clearly suffering from both domestic and global headwinds and so further stimulus is expected in Q1.

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