• The two-day FOMC meeting ends today with a likely hold; Chair Powell will face a delicate balancing act; CPI data are worth discussing; May PPI will be reported today; U.S. yields are rising ahead of the decision
  
• The two-day ECB meeting begins today; eurozone reported April IP; the monthly U.K. data dump continues; BOE tightening expectations continue to move higher ahead of next week’s meeting; Sweden May CPI ran hot
  
• New Zealand reported Q1 current account data; unlike the other two central banks in the dollar bloc, the RBNZ does not appear close to hiking rates again; reports suggest mounting official concern about the mainland economy

The dollar is drifting lower ahead of the FOMC decision. The dollar tends to weaken on FOMC decision days (see below) and true to form, DXY is trading lower for the second straight day near 103.138. The euro is trading higher near $1.08 and continues to meet stiff resistance near that level. Sterling is trading higher near $1.2645 and is on track to test the early May high near $1.2680 as economic data continue to come in firm (see below). USD/JPY is trading near 140 and we expect a dovish BOJ decision Friday to help set up a test of the late May high near 141. The headwinds on the dollar (banking sector weakness, debt ceiling battle) have been resolved even as the tailwinds (strong economy and robust labor market) remain in play. We look for the post-NFP rally to eventually resume as markets continue to underestimate the risks of Fed tightening. First, we have to get through the skip and so dollar weakness is likely near-term.

AMERICAS

The two-day FOMC Meeting ends today with a likely hold. Consensus sees rates kept steady after several Fed officials highlighted a skip, though a few analysts look for a 25 bp hike. Elsewhere, WIRP suggests around 10% odds of a hike that rise to 70% in July and 80% in September. Rate cuts are no longer priced in by year-end. Forward guidance will be key. We see very slight odds of a hawkish surprise but if rates are kept on hold, we would expect fairly explicit language highlighting a likely hike at the next meeting and the Dot Plots would have to be adjusted higher. Updated macro forecasts are likely to show growth and inflation higher and unemployment forecasts lower. As a point of reference, the OECD just released updated forecasts for the U.S. that see growth at 1.6% in 2023 and 1.0% in 2024 and inflation at 3.9% in 2023 and 2.6% in 2024.

Chair Powell will face a delicate balancing act. While the doves were able to seize control of the narrative with talk of a skip, there are likely an equal number of hawks that believe more tightening is needed. Similar to what ECB President Lagarde achieved earlier this year, Powell may deliver a hold today and balance that with strong language indicating this is not a pause. Can he pull it off? Perhaps, but as always, there is always heightened risks of a dovish slip of the tongue that dilutes the message. The dollar tends to weaken on FOMC decision days. It has done so for five straight and nine of the past ten.

The CPI data are worth discussing. Many are breathing a sigh of relief after CPI came in as expected, with headline at 0.2% m/m and 4.1% y/y and core at 0.4% m/m and 5.2% y/y. While base effects saw the y/y rates fall for both measures, the Fed can’t be happy with core rising 0.4% m/m for the third straight month. Looking ahead, the Cleveland Fed’s Nowcast model shows June headline CPI rising 0.42% m/m and 3.22% y/y and core CPI rising 0.43% m/m and 5.11% y/y. A fourth straight 0.4% m/m gain implied an annual rate near 5% and that is simply too high.

May PPI will be reported today. Headline is expected at -0.1% m/m and 1.5% y/y vs. 0.2% and 2.3% in April, respectively, while core is expected at 0.2% m/m and 2.9% y/y vs. 0.2% and 3.2% in April, respectively. PCE data won’t be reported until June 30. Of note, the Cleveland Fed’s Nowcast model shows headline PCE rising 0.13% m/m and 3.87% y/y and core PCE rising 0.38% m/m and 4.70% y/y. If so, this would also be the third straight month of a 0.4% m/m in core PCE.

U.S. yields are rising ahead of the decision. The 2-year UST yield traded as high as 4.70% yesterday, the highest since March 10 and on track to test that month’s high near 5.08%. It is trading near 4.65% currently but had an outside up day yesterday and suggests a further rise is likely. Elsewhere, the 10-year UST yield trade as high as 3.84% yesterday and is on track to test its March high near 4.09%.

EUROPE/MIDDLE EAST/AFRICA

The two-day ECB meeting begins today. It is expected to hike the deposit rate 25 bp to 3.50% and to confirm that all APP reinvestments will end this month. At the last meeting, President Lagarde estimated that the halt of APP reinvestments will average EUR25 bln per month and so it’s almost double the current pace of EUR15 bln per month. Forward guidance will be key. While the hawks remain vocal, recent trends in the economy have allowed the doves to control the narrative. Looking ahead, another 25 bp hike is priced in for either July or September. Odds of one last 25 bp hike after that top out near 20% in October. New macro forecasts will be released and we expect the growth outlook will be revised down and the inflation outlook will be revised up.

Eurozone reported April IP. It came in a tick higher than expected at 1.0% m/m vs. a revised -3.8% (was -4.1%) in March, while the y/y rate came in at 0.2% vs. 0.7% expected and -1.4% in March.

The monthly U.K. data dump continues. April GDP, IP, services, construction, and trade data were reported. GDP came in as expected at 0.2% m/m vs. -0.3% in March, IP came in at -0.3% m/m vs. -0.1% expected and 0.7% in March, services came in as expected at 0.3% m/m vs. -0.5% in March, and construction came in at -0.6% m/m vs. flat expected and 0.2% in March. The economy remains resilient even as inflation remains stubbornly high. Yesterday labor market data came in firm. The unemployment rate for the three months ended in April fell a tick to 3.8% when it was expected to rise a tick to 4.0%, while average weekly earnings came in at 6.5% y/y vs. 6.1% expected and a revised 6.1% (was 5.8%) previously.

Bank of England tightening expectations continue to move higher ahead of next week’s meeting. WIRP suggests a 25 bp hike is fully priced in, with around 10% odds of a larger 50 bp move. Looking ahead, hikes are now priced in for August, September, November, and December that would see the policy rate peak near 5.75%. Governor Bailey said yesterday that “We still think inflation is going to come down but it’s taking a lot longer than expected. Employers say they are finding it so hard to recruit labor in this market that they are not going to release labor, they are labor hoarding. They will adjust hours if they need but will be very reluctant to make people redundant.”

Sweden May CPI ran hot. Headline came in at 9.7% y/y vs. 9.5% expected and 10.5% in April, CPIF came in as expected at 6.7% y/y vs. 7.6% in April, and CPIF ex-energy came in at 8.2% y/y vs. 7.8% expected and 8.4% in April. Headline was the lowest since July 2022 but still well above the 2% target. At the last Riksbank meeting April 26, it hiked rates 50 bp to 3.5% and noted that “It is important for confidence in the inflation target that inflation falls clearly this year. To ensure that this happens, the policy rate needs to be raised further.” Forward guidance shifted more hawkish as the policy rate was seen peaking at 3.65% in Q2 2024 vs. 3.33% in Q4 2024 in the February forecasts and staying there through Q2 2025. WIRP suggests a 25 bp hike is fully priced in for the June 29 meeting, with no odds of a larger 50 bp move.

ASIA

New Zealand reported Q1 current account data. It came in at -8.5% of GDP vs. -9.0% expected and a revised 9.0% (was -8.9%) in Q4. This was the first improvement since Q3 2020 but the gap remains much higher than normal. GDP data will be reported tomorrow and is expected at -0.1% q/q vs. -0.6% in Q4, while the y/y rate is expected at 2.6% vs. 2.2% in Q4.

Unlike the other two central banks in the dollar bloc, the RBNZ does not appear close to hiking rates again. At the last meeting May 24, the bank hiked rates 25 bp but signaled that it was the end of the tightening cycle and not a pause, as Governor Orr noted “All of the committee were comfortable with the forward path that had interest rates holding around 5.5%.” It remains to be seen whether the RBNZ is eventually forced to restart the tightening cycle but for now, WIRP suggests only 10% odds of a hike July 12 but rise to 25% August 16 and topping out near 50% October 4.

Reports suggest mounting official concern about the mainland economy. Reports have emerged that top China policymakers have held several meetings recently with business leaders on how to boost the economy. Senior officials have reportedly asked for advice and proposals from business leaders and economists on how to stimulate the economy, revive confidence, and boost the property sector that participants describe as unusually urgent in their tone. Reports suggest there have been at least six such meetings in recent weeks and support our belief that the impact of reopening has disappointed not only the markets but officials too. The PBOC is expected to cut its 1-year MLF rate 10 bp to 2.65% tomorrow just before key economic data for May will be reported and expected to show further weakness. Central bank divergence should keep upward pressure on USD/CNY.