Dollar Soft Ahead of FOMC Decision

February 01, 2023
  • The FOMC meeting ends this afternoon with an expected 25 bp hike; the dollar tends to weaken on FOMC decision days; ahead of the decision, ADP reports its private sector jobs estimate; ISM manufacturing will also be important; Canada January S&P Global manufacturing PMI will be reported; Brazil is expected to keep rates steady at 13.75%
  • Eurozone reported soft January CPI data; the ECB meeting just got a lot more interesting; final eurozone manufacturing PMIs were reported; U.K. press reports suggest a Brexit deal is close; BOE meets tomorrow and is expected to hike rates by 50 bp
  • The countdown for the next BOJ Governor begins; Australia reported final January manufacturing PMI; New Zealand reported softer Q4 labor market data; RBNZ tightening expectations have fallen; Korea reported weak January trade data

The dollar is soft ahead of the FOMC decision. DXY is down for the second straight day and trading near 101.878. The euro is trading higher near $1.09 despite softer than expected CPI data (see below) ahead of tomorrow’s ECB decision. Sterling is trading flat near $1.2325 despite reports that a Brexit deal is close (see below). It is likely to continue underperforming due to the negative fundamental backdrop. USD/JPY is trading back below 130 as it continues to meet stiff resistance above the figure. While we are happy to see the dollar get some traction recently, today’s price action suggests that until a more hawkish Fed narrative takes hold, the dollar is likely to remain vulnerable to renewed weakness. Perhaps today’s FOMC decision will provide the much-needed spark for the next leg higher in this dollar rally.


The two-day FOMC meeting ends this afternoon with an expected 25 bp hike. That is the safe choice right now and we see no need for the Fed to deviate from its cautious path. However, the hard part for the Fed will be convincing the markets that they are wrong about its perceived pivot. The Fed should leave the door wide open for further rate hikes and Chair Powell will likely stress that the Fed is prepared to continue hiking rates beyond 5% and keep them there until 2024, as the December Dot Plots showed. As things stand, the Fed is seen starting an easing cycle in H2 and we view that as highly unlikely. New Dot Plots and macro forecasts won’t come until the March 21-22 meeting. Please see our detailed FOMC Preview here.

The dollar tends to weaken on FOMC decision days. In 2020, DXY weakened on nine of ten decision days. In 2021, DXY weakened on five of the eight decision days. In 2022, DXY weakened on six of the eight decision days. This is particularly surprising given the hawkish stance in the Fed last year. However, hawkish Fed messaging should eventually boost U.S. yields and the dollar but it could take some time.

Ahead of the FOMC decision, ADP reports its private sector jobs estimate. It is expected at 180k vs. 235k in December. Note that consensus for NPF this Friday stands at 190k vs. 223k in December, with the unemployment rate seen rising a tick to 3.6% and average hourly earnings at 4.3% y/y vs. 4.6% in December. December JOLTS data will also be reported and is expected at 10.3 mln vs. 10.458 mln in December. The labor market picture will be rounded out by January Challenger job cuts, Q4 unit labor costs, and weekly jobless claims that will all be reported Thursday. All in all, the labor market remains tight and it’s hard to see how wage pressures can fall that much further given this tightness.

Indeed, data show that labor costs remain high. Q4 employment cost index was reported yesterday at 1.0% q/q vs. 1.1% expected and 1.2% in Q3. The y/y rate came in at 5.1% vs. 5.0% in Q3 and represents a new cycle high. ECI is a more comprehensive measure of employment costs than AHE as it includes benefits that employers pay out. A one tick downside miss is no cause for celebration. The y/y rate is still too high for the Fed's comfort and we don't think the data changes anything in terms of Fed policy.

ISM manufacturing will also be important. Headline is expected at 48.0 vs. 48.4 in December, while the prices paid component is expected at 40.4 vs. 39.4 in December. ISM services will be reported Friday, with headline expected at 50.5 vs. 49.2 in December. Yesterday, Chicago PMI came in at 44.3 vs. 45.0 expected and a revised 45.1 (was 44.9) in December while Dallas Fed services index same in at -15.0 vs. a revised -20.5 (was -19.8) in December. December construction spending (flat m/m expected) and January vehicle sales (15.5 mln annual pace) will also be reported. Of note, the Atlanta Fed’s GDPNow model has an initial estimate for Q1 GDP growth of 0.7% SAAR. The next model update will come today after the data.

Canada January S&P Global manufacturing PMI will be reported. Bank of Canada tightening expectations have flat-lined after it hiked rates 25 bp to 4.5% last week and signaled a pause. The swaps market sees more than just a pause and is pricing in steady rates in H1 followed by the start of an easing cycle in H2. Recent data have come in firm and so we do not think the tightening cycle is unequivocally over and we see risks of a peak policy rate that’s higher than 4.5%. Of note, Governor Macklem stressed that it’s still “far too early to be talking about cuts.” We concur.

Brazil COPOM is expected to keep rates steady at 13.75%. Rates have been kept steady since the last 50 bp hike in August. At the last meeting December 7, the bank pledged to keep rates steady for “a sufficiently long period” and said it would not hesitate to resume hikes if inflation doesn’t slow as expected. The swaps market is pricing in some odds of one last 25 bp hike to 14.0% in H1 followed the start of an easing cycle in H2.


Eurozone reported soft January CPI data. Headline came in at 8.5% y/y vs. 8.9% expected and 9.2% in December, while core came in at 5.2% y/y vs. 5.1% expected and 5.2% in December. This was the third straight month of deceleration from the 10.7% peak in October, but core remains at the cycle high. Italy also reported CPI and its EU Harmonised inflation came in at 10.9% y/y vs. 10.7% expected and 12.3% in December. German’s reading was delayed until next week and it is expected at 10.1% y/y vs. 9.6% in December.

The European Central Bank meeting just got a lot more interesting. While it is widely expected to hike all rates by 50 bp tomorrow, the debate over its forward guidance is likely to be more contentious after today’s CPI data. WIRP suggests nearly 75% odds of another 50 bp hike March 16. A 25 bp hike May 4 is priced in, as is a last 25 bp hike in Q3 that would see the deposit rate peak near 3.5%. Recall that the December decision was reached after the hawks and doves compromised on a smaller 50 bp hike in return for more hawkish forward guidance. We expect President Lagarde to stick with the signal for a 50 bp hike at the March 16 meeting. In return, the doves could extract less hawkish forward guidance beyond Q1. The hawks held the upper hand in December but we think that is shifting back towards the doves now. That said, If inflation continues to slow, we think the expected peak rate is likely to move back down to 3.25% as it did last month and perhaps even down to 3.0%, which is where it stood back in mid-December. Stay tuned.

Final eurozone manufacturing PMIs were reported. Headline was steady from the preliminary at 48.8. However, Germany was revised up three ticks to 47.3 while France was revised down three ticks to 50.5. Italy and Spain report for the first time and both came in two full points higher than December at 50.5 and 48.4, respectively. Final services and composite PMIs will be reported Friday. Here too, Italy and Spain report for the first time and their composite PMIs are expected at 51.3 and 51.3, respectively.

U.K. press reports suggest a Brexit deal is close. The EU has reportedly accepted a U.K. customs proposal that would allow goods to flow unchecked from Great Britain to Northern Ireland, while goods set for export into the Republic of Ireland would undergo checks in Northern Irish ports. Citing unnamed government sources, the reports also suggest that the EU Brussels has made concessions of the jurisdiction of the European Court of Justice (ECJ)by recognizing that the court could only rule on Northern Ireland issues if a case was referred by the local courts. However, officials on both sides downplayed these reports and said talks remain ongoing. It’s worth noting that today marks the third anniversary of the “final” Brexit deal. If these reports are correct, the truly final deal is long overdue. There had been reports that both sides wanted a deal before the April 25th anniversary of the Good Friday peace agreement. Sterling is really not reacting to the news. This could be due to doubts about the report, but we think it’s really because most observers realize that Brexit came at a huge economic cost with little benefit to show for it.

Speaking of which, the U.K. reported final January manufacturing PMI. It was revised up three ticks from the preliminary at 47.0. Final services and composite PMIs will be reported Friday. The data are likely to continue worsening as the full weight of monetary and fiscal tightening has yet to be felt.

The Bank of England meets tomorrow and is expected to hike rates by 50 bp. However, nearly a third of the analysts polled by Bloomberg see a smaller 25 bp move. WIRP suggests 75% odds of a 50 bp hike, down from 85% at the start of last week, while a 25 bp hike March 23 is nearly priced in. After that, odds of a final 25 bp hike in June or August top out near 85% that would see the bank rate peak near 4.5%. Recall that for the 50 bp hike at the last meeting December 15, , the 6-3 vote was surprising in that Dhingra and Tenreyro voted to keep rates steady and Mann voted for a larger 75 bp move. Updated macro forecasts will be released tomorrow.


The countdown for the next Bank of Japan Governor begins. Prime Minister Kishida recently pledged to name Governor Kuroda’s successor in February and now here we are on the first day of the month. Deputy Governor Amamiya and former Deputy Governor Nakaso remain the frontrunners. We think it’s a foregone conclusion that accommodation will be removed this year; the only question is whether Kuroda does it at the next meeting March 9-10 (possible but very unlikely) or his successor does it at one of the subsequent meetings. WIRP suggests odds of liftoff at the April 27-28 meeting are around 45%, rising to 75% at the June 15-16 meeting and fully priced in for the July 27-28 meeting. Elsewhere, Japan reported final January manufacturing PMI unchanged from the preliminary reading at 48.9. Final services and composite PMIs will be reported Friday.

Australia reported final January manufacturing PMI. It was revised up two ticks from the preliminary to 50.0 and but remains the lowest since May 2020. Final services and composite PMIs will be reported Saturday. China reopening should help boost Australia’s economic outlook, though we continue to warn that the positive impact will be very uneven. RBA tightening expectations have steadied. At the last policy meeting December 6, the Reserve Bank of Australia hiked rates 25 bp to 3.10%. The next policy meeting is February 7 and WIRP suggests nearly 80% odds of a 25 bp hike, while the swaps market is still pricing in a peak policy rate near 3.85%, up from 3.55% at the start of last week. Given that inflation is still rising despite the 300 bp of tightening seen so far, we believe there are upside risks to the expected terminal rate. Updated macro forecasts will come at the February meeting.

New Zealand reported soft Q4 labor market data. Unemployment was expected to remain steady at 3.3% but instead rose a tick to 3.4% as employment came in slightly lower than expected at 0.2% q/q and 1.3% y/y. Unemployment is rising but remains quite close to the cycle low of 3.2%. Total private wages slowed a tick as expected from Q3 to 1.1% q/q while private wages excluding overtime remained steady as expected from Q3 at 1.1% q/q.

RBNZ tightening expectations have fallen. At the last policy meeting November 23, the RBNZ hiked rates 75 bp to 4.25% and signaled further tightening ahead. Updated forecasts were released and showed an upward shift in the expected rate path to 5.5% this year, up sharply from 4.1% previously. Next policy meeting is February 22 and WIRP suggests a 50 bp hike is fully priced in, with only 20% odds of a larger 75 bp move. New forecasts will be released then. The swaps market is pricing in a peak policy rate near 5.25-5.5%, which is now below the bank’s expected rate path.

Korea reported weak January trade data. Exports came in at -16.6% y/y vs. -11.1% expected and -9.6% in December, while imports came in as expected at -2.6% y/y vs. -2.5% in December. Despite reopening in December, the chill from China continues to be felt by the regional exporters. Taiwan export orders remain weak, suggesting little relief in regional shipments in H1.

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