• Regional bank stocks have come under pressure again despite the resolution of First Republic; the two-day FOMC meeting ends today and we still expect a 25 bp hike; ADP reports its private sector jobs estimate; April ISM services PMI will also be important; Brazil is expected to keep rates steady at 13.75%
  
• Eurozone credit conditions have tightened; ECB bank lending survey comes just days before the ECB is expected to hike rates another 25 bp; Turkey reported April CPI; Czech National Bank is expected to keep rates steady at 7.0%
  
• RBA Governor Lowe explained the hawkish surprise; Australia reported firm data; New Zealand reported firm Q1 labor market data; RBNZ published its financial stability report, Malaysia delivered a hawkish surprise and hiked rates 25 bp to 3.0% vs. an expected hold; it seems that, like DM, interest rates in EM will also be higher for longer

The dollar is soft ahead of the FOMC decision. An expected 25 bp hike has been offset by renewed banking sector tensions and so the dollar remains under pressure. DXY is trading lower for the second straight day near 101.591 after trading near 102.294 yesterday, the highest since April 11. The yen is outperforming in this risk off environment with USD/JPY trading near 135.55 after testing the March 8 high near 138 yesterday. The euro is trading higher near $1.1040 while sterling is trading higher near $1.2515. We had hoped that the First Republic deal would be a good first step but more clearly needs to be done. Recent data have been dollar-supportive and hawkish Fed today may help the dollar get some traction, but until banking sector concerns have been addressed and rate cuts this year are finally priced out, the dollar is likely to remain vulnerable.

AMERICAS

Regional bank stocks have come under pressure again despite the resolution of First Republic. Yet what are we really seeing unfold? As things stand, what we saw yesterday was a massive sell-off in regional bank stocks. This does not translate into the same thing as a run on those banks; rather, it just shows investor unease with the outlook for those banks. Because that outlook is still unknown, markets did what they always do in these situations and assumed the worst. We won’t know exactly how bad things are getting again with regards to bank deposits until we see the Fed’s weekly H.8 report this Friday. But even then, one will be for the weekly period ending April 26 and will not reflect what’s happening this week.

However, the Fed’s weekly H.4.1 report tomorrow will be more timely. Data here will show commercial bank use of emergency borrowing from the Fed’s Discount Window and Bank Term Funding Program through today, May 3. Thus , we should get some sort of an idea whether regional banks are seeing the kinds of stresses that we saw back in March, when Discount Window usage jumped and the BTFP was created and quickly tapped. Recent reports from notable bank analysts have suggested that the regional banks have shored up their balance sheets in recent weeks. Perhaps some of these banks will report Q2 trends to help stem the panic. Stay tuned.

The two-day FOMC meeting ends today and we still expect a 25 bp hike. Renewed banking sector strains have made things a bit more interesting but when push comes to shove, the Fed is unlikely to be deterred from hiking. Unless and until the Fed were to see actual strains on the banking sector, we believe it will stick with its stated view from the March meeting that U.S. banks remain sound and resilient whilst acknowledging that recent events will weigh on growth. Chair Powell acknowledged then that the Fed considered a pause at the March meeting but stressed that it was too soon to say how Fed policy has been impacted by the banking crisis. We think that still holds true now but Powell should acknowledge that renewed banking sector stresses will add to uncertainty. When all is said and done, we expect the Fed to hike today and leave the door wide open to any future moves. Updated forecasts and Dot Plots will come at the June meeting. Of note, WIRP is nearly pricing in two cuts by year-end and we continue to view this as highly unlikely.

ADP reports its private sector jobs estimate. It is expected at 148k vs. 145k in March and comes ahead of the jobs data Friday. Consensus for NFP currently stands at 180k vs. 236k in March, while the unemployment rate is expected to rise a tick to 3.6% and average hourly earnings are expected to remain steady at 4.2% y/y. April Challenger job cuts and weekly jobless claims will be reported tomorrow. March JOLTS job openings were reported yesterday at 9.59 mln vs. 9.736 mln expected and a revised 9.974 mln (was 9.931 mln) in February. This was the lowest since April 2021. While there have been some signs of cooling in the labor market, it remains relatively tight.

April ISM services PMI will also be important. Headline is expected at 51.8 vs. 51.2 in March. Keep an eye on the prices paid and employment components. Of note, ISM manufacturing PMI and S&P Global preliminary April PMIs came in stronger than expected. Manufacturing came in 50.4 vs. 49.0 expected and 49.2 in March while services came in at 53.7 vs. 51.5 expected and 52.6 in March. As a result, the composite rose to 53.5 vs. 51.2 expected and 52.3 in March and was the highest since May 2022. Chicago PMI also came in much stronger than expected last week and at 48.6 is the highest since last August. Of note, the Atlanta Fed’s GDPNow model is now tracking Q2 growth at 1.8% SAAR, up from the initial estimate of 1.7% SAAR. Next model update comes tomorrow. Bloomberg consensus sees Q2 at 0.6% SAAR and Q3 at -0.6% SAAR.

Brazil COPOM is expected to keep rates steady at 13.75%. At the last meeting March 22, the bank delivered a hawkish hold by noting “additional deterioration” in inflation expectations. This triggered ongoing criticism from government officials, including President Lula. Last week, BCB chief Campos Neto held firm in testimony before Congress and noted “It’s obvious that we want to have low rates and that the central bank wants to see borrowing costs fall. You need to have correct timing and the correct credibility because we want a sustainable decline in rates.” Given this hawkish stance, we believe a rate cut is unlikely until Q3. The June 21 meeting seems too soon but August 2 is quite possible if inflation and inflation expectations ease.

EUROPE/MIDDLE EAST/AFRICA

Eurozone credit conditions have tightened. The ECB’s Bank Lending Survey published yesterday noted that credit standards “tightened further substantially” in Q1, adding that “The tightening for loans to firms and for house purchase was stronger than banks had expected in the previous quarter and points to a persistent weakening of loan dynamics.” Respondents in the survey also reported that “access to retail and wholesale funding deteriorated” and the report highlighted that “For money markets and debt securities, the deterioration reverses the improvement in the access to these markets registered at the end of last year, possibly reflecting the March 2023 market turmoil, the lower overall level of excess liquidity and the increased collateral availability that had stemmed from TLTRO III voluntary early repayments in the last quarter of 2022.” The deterioration clearly reflected both the ECB’s aggressive monetary tightening as well as the global banking turmoil in March. While this should not deter the ECB from further hikes, the lending survey does argue for more caution going forward.

The survey comes just days before the ECB is expected to hike rates another 25 bp. There are around 10% odds of a larger 50 bp move tomorrow but we think the April CPI data and the ECB lending survey cements the smaller 25 bp move. At the last meeting March 16, the bank hiked rates 50 bp whilst acknowledging recent market tensions had added uncertainty to its baseline assessments. The ECB refrained from signaling future rate moves in its statement and that should remain the case this week. President Lagarde should again stress that there is no trade-off between price and financial stability. This was a very strong statement, one that has been echoed since by other central banks and likely to be maintained this week by both the Fed and ECB. Updated macro forecasts were released in March and so the next set will come at the June meeting. Looking ahead, WIRP suggests another hike is priced in for June 15 and another for September 14, with the deposit rate seen peaking at 3.75%.

Turkey reported April CPI. Headline came in at 43.68% y/y vs. 44.10% expected and 50.51% in March, while core came in at 45.48% y/y vs. 45.40% expected and 47.36% in March. Headline was the lowest since December 2021 but this is due in large part to high base effects. The 2.39% m/m headline gain of 2.65% marks an acceleration from 2.29% in March and suggests that inflation pressures remain high overall. The central bank just left rates steady at 8.5% last week. While we saw risks of a dovish surprise, it appears that policymakers opted for stability ahead of the May 14 elections. Reports suggest the central bank has been selling off its gold reserves in order to meet a spike in local demand ahead of the vote.

Czech National Bank is expected to keep rates steady at 7.0%. At the last meeting March 29, the bank signaled that rates may not have peaked yet and that market bets on rate cuts were premature. Governor Michl noted that the strong koruna is tightening monetary conditions and added that it “could be even stronger than it is.” The bank has kept rates steady since its 125 bp hike last June. Since then, EUR/CZK has fallen over 5%. The bank’s model suggests that each percentage point gain in the koruna is equivalent to 25 bp of tightening and so it appears that Michl has a good point. That said, with inflation running near 15%, policy still doesn’t seem tight enough and yet the bank is likely to start an easing cycle in H2.

ASIA

Reserve Bank of Australia Governor Lowe explained the hawkish surprise. In explaining the bank’s hawkish surprise, he said "We have seen further evidence that the Australian labor market is still very tight, that services price inflation is proving to be uncomfortably persistent abroad, and that asset prices - including the exchange rate and housing prices - are responding to changes in the interest rate outlook.” Lowe noted that "Goods price inflation is slowing, which is good news, but services and energy price inflation is still high and likely to remain so for some time. Looking overseas, we see worryingly persistent services price inflation. It is possible that circumstances might be different here in Australia, but the experience abroad points to an upside risk, especially given the high degree of commonality across countries in inflation dynamics recently." In justifying the bank’s recent pause, he said "We are taking a bit more time than some other countries, on the basis that doing so can preserve some of the gains in the labor market. But there is a limit here. If we take too long to get inflation back to target, expectations will adjust and life will become more difficult." The bank releases it Statement on Monetary Policy Friday that will contain updated macro forecasts.

Australia reported firm data. March retail sales came at 0.4% m/m vs. 0.2% expected and actual in February. Final services and composite PMIs were also reported and both were revised higher from the preliminary to 53.7 and 53.0, respectively. Despite little discernible impact from China reopening, the composite PMI was the highest since April 2022 and perhaps speaks to why the RBA delivered another rate hike. Simply put, the Australian economy remains fairly robust despite the 375 bp of tightening so far.

New Zealand reported firm Q1 labor market data. The unemployment rate was expected to rise a tick to 3.5% but instead remained steady at 3.4% as a 0.8% q/q gain in employment was enough to offset the three tick rise in the participation rate to 72.0%. Despite the 500 bp of RBNZ tightening since, the unemployment rate has barely budged off the Q4 2021 and Q1 2022 cycle low of 3.2%. On the other hand, private wages slowed to 0.9% q/q vs. 1.1% q/q in Q4, for both measures including and excluding overtime. Overall, the firm labor market is likely to keep the tightening cycle alive. The next meeting policy is May 24 and a 25 bp hike to 5.5% is priced in. After that, the market is pricing in steady rates through year-end followed by 50 bp of easing next year by the April 10 meeting.

Reserve Bank of New Zealand published its financial stability report. The bank said that the nation’s financial system is well placed to handle rising interest rates as well as global financial risks. It noted that households are facing higher debt servicing costs from rising interest rates but stressed that levels of loan default remain low. Governor Orr noted that "To date there have been limited signs of distress in banks' lending portfolios, with only a small share of borrowers falling behind on their payments. This reflects the ongoing strength of the labor market and that borrowers have been able to adjust their spending or use previous savings and repayment buffers." The constructive tone is not surprising as it took the same stance after it delivered a hawkish surprise April 5 and hiked rates 50 bp to 5.25% vs. 25 bp expected. The bank said then that it discussed recent global banking stresses and concluded that local banks are well placed to face any risks and stuck to ECB President Lagarde’s mantra that there is no trade-off between price stability and financial stability.

Bank Negara delivered a hawkish surprise and hiked rates 25 bp to 3.0% vs. an expected hold. The bank said “The balance of risk to the inflation outlook is tilted to the upside and remains highly subject to any changes to domestic policy including on subsidies and price controls, financial market developments, as well as global commodity prices.” The government is planning to end some of the fuel subsidies in the coming weeks, which will push headline inflation higher. The bank added that “In light of the continued strength of the Malaysian economy, the MPC also recognizes the need to ensure that the stance of monetary policy is appropriate to prevent the risk of future financial imbalances.” Most, including us, thought the tightening cycle was over after two straight holds in January and March. The last hike was 25 bp back in November. The market is now pricing in 50 bp of tightening over the next three months and followed by steady rates over the next twelve months.

It seems that interest rates in Emerging Markets will also be higher for longer. We just put out a piece here that discusses the Developed Market monetary policy outlook warning that “With global liquidity set to tighten further well into 2024, we believe many asset classes will remain at risk.” We will be putting a similar piece out for EM in the coming days.