Dollar Steady as Markets Await Fresh Drivers

August 27, 2024

Win Thin

Fed officials are spreading the message; we continue to see a soft landing in U.S. labor market; August consumer confidence will be in the spotlight; Brazil reports mid-August IPCA inflation
German sentiment indicators continue to sink; U.K. Prime Minister Starmer paved the way for higher taxes; U.K. price pressures continue to ease; Hungary is expected to keep rates steady
A Chinese military plane breached Japanese airspace yesterday

The dollar is steady as markets await fresh drivers. DXY is trading flat near 100.857 as Middle East tensions ease. USD/JPY is trading higher near 144.85, sterling is trading higher near $1.3220, and the euro is trading flat near $1.1165. With the labor market looking solid, we continue to believe that market expectations for aggressive Fed easing remain overdone (see below). We also continue to believe that the divergence story remains in place (supported by the August PMIs) and should eventually support the dollar. However, after Powell’s Jackson Hole speech, it will likely take even longer for the current dovish Fed market narrative to run its course as the dollar remains vulnerable near-term.

AMERICAS

Fed officials are spreading the message. San Francisco Fed President Daly echoed Powell’s policy guidance that “the time to adjust policy is upon us” to “prevent injuring the labor market.” However, Daly stressed that it was “too early to know” the pace of coming rate cuts as she’s not yet seeing signs of “real weakness” in the labor market. Daly added she did not want to declare the Fed was on a path to neutral, which she estimates is as high as 1% inflation-adjusted (or 3% in nominal terms).

We continue to see a soft landing in U.S. labor market. In turn, this supports our view that market expectations for Fed easing over the next several months have gone too far. The JOLTS layoff rate dipped to 0.9% in June, matching the April 2022 low, indicating firms are managing headcount through attrition rather than layoffs. Moreover, the job vacancy rate is near pre-pandemic levels at 4.9% and above the 4.5% threshold that typically signals a worrisome rise in the unemployment rate.

Market pricing for the Fed still hasn't changed much. 100 bp of easing is still seen by year-end, with 200 bp total seen over the next 12 months. Odds of a 50 bp move in September are between 20-25%. With the Fed’s laser focus on the labor market, it’s clear that the jobs data is the most important for policy. If we get a strong August NFP (above 200k) next Friday, then we lean towards 25 bp. If we get a weak reading (below 100k), then we think a 50 bp cut becomes live. Anything in between and it’s a toss-up. Bloomberg consensus is 160k, while its whisper number stands at 150k. July JOLTS data next Wednesday will also be important.

August consumer confidence will be in the spotlight. Conference Board reports consumer confidence today and headline is expected at 100.8 vs. 100.3 in July. If so, it would be the highest since May but would still remain roughly within the same narrow range that’s held throughout the past two years. Regardless, positive real wage growth, rising house prices, and encouraging labor demand suggest household spending will remain an important tailwind to GDP growth. University of Michigan reports final August consumer sentiment Friday.

Q3 growth remains solid. The Atlanta Fed’s GDPNow model is still tracking Q3 growth at 2.0% SAAR after its latest update yesterday. Next update is Friday after the data. Elsewhere, the New York Fed’s Nowcast model is tracking Q3 growth at 1.9% SAAR and will also be updated Friday. It should also publish its first estimate for Q4 at the same time. While both model estimates are down from their earlier highs, growth near trend remains quite impressive in light of the Fed’s tightening.

Regional Fed surveys for August will wrap up. Dallas services and Richmond manufacturing (-14 expected) and services will be reported today. Yesterday, Dallas manufacturing came in at -9.7 vs. -16.0 expected and -17.5 in July.

Brazil reports mid-August IPCA inflation. Headline is expected at 4.33% y/y vs. 4.45% in mid-July. If so, it would be the first deceleration since mid-May. At the last meeting, COPOM kept rates steady at 10.5% and gave no hint of when a tightening cycle would begin. Next meeting is September 18 and a 25 bp hike to 10.75% is expected. The swaps market is pricing in 150 bp of total tightening over the next 12 months.

EUROPE/MIDDLE EAST/AFRICA

German sentiment indicators continue to sink. September GfK consumer came in at -22.0 vs. -18.2 expected and a revised -18.6 (was -18.4) in August. This was the lowest since May and follows other sentiment indicators lower. Yesterday, Germany reported a soft August IFO survey. Headline came in at 86.6 vs. 86.0 expected and 87.0 in July, with both current assessment and expectations falling to 86.5 and 86.8, respectively. Here, headline was the lowest since February. Germany’s overall growth outlook is deteriorating as the composite PMI fell to a 5-month low at 48.5 on slower services sector expansion and a deeper downturn in manufacturing activity.

There are key ECB speakers this week. Knot and Nagel speak today. Lane and Nagel speak tomorrow. With the growth outlook quite soggy, the ECB is widely expected to continue easing in September.

U.K. Prime Minister Starmer paved the way for higher taxes in the upcoming October 30 budget. Starmer followed up on last month’s warning by Chancellor of the Exchequer Rachel Reeves and pointed to a GBP22 bln (0.8% of GDP) funding shortfall. Starmer added “things are worse than we ever imagined” and the upcoming October budget statement “will be painful.” Tighter fiscal policy could leave the Bank of England more room to ease policy.

U.K. price pressures continue to ease. The August U.K. BRC shop price index came in at -0.3% y/y vs. 0.2% in July, the first annual decline in nearly three years. However, the pick-up in economic activity suggests the BOE is unlikely to cut the policy rate by more than is currently priced in by year-end (roughly 50 bp).

The U.K. CBI reported its August distributive trades survey. Retailing reported sales came in at -27 vs. -10 expected and -43 in July, while total reported sales came in at -20 vs. -30 in July.

National Bank of Hungary is expected to keep rates steady. However, the market is split as nearly a third of the 22 analysts polled by Bloomberg look for a 25 bp cut to 6.5%. At the last meeting July 23, the bank cut rates 25 bp and Deputy Governor Virag said market bets for one or two more cuts this year were “realistic.” Since that meeting, July CPI came in at 4.1% y/y, the highest since December and back above the 2-4% target range and so a hold today seems warranted. The swaps market is pricing in 100 bp of easing over the next 12 months.

ASIA

A Chinese military plane breached Japanese airspace yesterday. After a Chinese aircraft spent two minutes in Japanese airspace off of its south coast, Japan scrambled fighter jets to warn it off. This was the first such confirmed incursion. China’s Foreign Ministry said the incursion was unintentional, while Japan officials said, “This is not just a serious violation of our territory but also a threat to our security.” This comes amidst rising tensions between China and the Philippines, as evidenced by a recent collision of ships in the South China Sea.

Brown Brothers Harriman & Co. (“BBH”) may be used as a generic term to reference the company as a whole and/or its various subsidiaries generally. This material and any products or services may be issued or provided in multiple jurisdictions by duly authorized and regulated subsidiaries.This material is for general information and reference purposes only and does not constitute legal, tax or investment advice and is not intended as an offer to sell, or a solicitation to buy securities, services or investment products. Any reference to tax matters is not intended to be used, and may not be used, for purposes of avoiding penalties under the U.S. Internal Revenue Code, or other applicable tax regimes, or for promotion, marketing or recommendation to third parties. All information has been obtained from sources believed to be reliable, but accuracy is not guaranteed, and reliance should not be placed on the information presented. This material may not be reproduced, copied or transmitted, or any of the content disclosed to third parties, without the permission of BBH. All trademarks and service marks included are the property of BBH or their respective owners.© Brown Brothers Harriman & Co. 2024. All rights reserved.