Dollar Surges as 2023 Gets Under Way

January 03, 2023
  • Fed tightening expectations still need to adjust; only minor data will be reported today
  • Eurozone inflation data take center stage; Germany reported December unemployment data; U.K. final December manufacturing PMI rebounded; Turkey reported December CPI data
  • The yen continues to gain as BOJ tightening expectations remain elevated; Caixin reported soft December manufacturing PMI

The dollar is starting off 2023 with a bang. With markets returning from holiday, DXY traded today at the highest level since December 19 near 104.859. With little in the way of new fundamental developments, this appears to be largely a technical move magnified by skewed positioning as dollar shorts get stopped out. A break above 104.893 would set up a test of the December 7 high near 105.822. The euro is trading at the lowest level since December 12 and has retraced nearly half of the late November-mid-December rally. A break below $1.0460 is needed to set up test of the November 30 low near $1.0290. Sterling is leading this move lower in the foreign currencies and is already testing its November 30 low near $1.19. A break below would set up a test of the November 21 low near $1.1780. USD/JPY broke below the August 2 low near 130.40 to trade as low as 129.50 today before reversing on broad-based dollar gains. That break sets up a test of the May low near 126.35. We believe dollar weakness in late 2022 was overdone; with the fundamental backdrop little changed, we expect the greenback to claw back much of those losses in the coming weeks and months.


Fed tightening expectations still need to adjust. WIRP suggests a 25 bp hike February 1 is fully priced in, with over 30% odds of a larger 50 bp move. Another 25 bp hike March 22 is fully priced in, with nearly 50% odds of one last 25 bp hike in Q2. Elsewhere, the swaps market is pricing in a policy rate peak near 5.0% by mid-year, followed by an easing cycle by year-end. Given the ongoing strength in the U.S. economy, we just don’t see that happening.

Only minor data will be reported today. November construction spending is expected at -0.4% m/m vs. -0.3% in October. The housing sector is bearing the brunt of higher interest rates, but the wider economy has proven to be resilient. The Fed remain focused on the labor market and so this Friday’s jobs report is key. Consensus for NFP stands at 200k vs. 263k in November. Because of the holiday, ADP reports its private sector jobs estimate Thursday rather than the usual Wednesday and is expected at 145k vs. 127k in November. Job growth is clearly slowing, but is it slowing enough to curb wage pressures? Stay tuned.


Eurozone inflation data takes center stage. Spain reported first last week and its EU Harmonized measure came in at 5.6% y/y vs. 5.8% expected and 6.7% in November and was the lowest since November 2021. Germany reports December CPI today and its EU Harmonized measure is expected at 10.2% y/y vs. 11.3% in November. If so, it would be the lowest since August. German state data reported so far today suggest downside risks to the national reading. France reports tomorrow and its EU Harmonized measure is expected at 7.3% y/y vs. 7.1% in November, while Italy reports Thursday and its EU Harmonized measure is expected at 12.3% y/y vs. 12.6% in November. Eurozone reports Friday, with headline expected at 9.5% y/y vs. 10.1% in November, which would be the lowest since August, while core is expected at a new cycle high of 5.1% y/y vs. 5.0% in November. Of note, November PPI will be reported Thursday and is expected at 27.5% y/y vs. 30.8% in October.

ECB tightening expectations have steadied. WIRP suggests a 50 bp hike February 2 is nearly 90% priced in, followed by 70% odds of another 50 bp hike March 16. A 25 bp hike May 4 is nearly priced in, followed by one last 25 bp hike either June 15 or July 27 that would take the deposit rate to 3.5%. Can the ECB basically double the deposit rate from the current 2% even as the eurozone slips into recession? We remain skeptical.

Germany reported December unemployment data. Unemployment fell -13.0k vs. and expected rise of 15.0k and a revised 15.0k rise (was 17.0k) in November. The unemployment rate remained steady at 5.5%. Overall, eurozone labor markets have held up reasonably well but whether this can continue depends largely on whether official predictions for a short and shallow downturn prove accurate. The recent bounce in eurozone data helped push the euro to its highest level since June near $1.0735. We believe markets have gotten too sanguine about the eurozone outlook and that the single currency is nearing a top for this current move. We thought it might trade near the May/June highs just below $1.08, but today’s price action suggests the euro may fall short of that target.

U.K. final December manufacturing PMI rebounded. It came in at 45.3 vs.44.7 preliminary. Services and composite PMIs will be reported Thursday and construction PMI will be reported Friday. The composite reading rose in December from the 48.2 trough in both October and November but we downplay this modest improvement. With both fiscal and monetary tightening in the pipeline, it’s hard to see where growth would come from.

BOE tightening expectations remain steady. WIRP suggests 66% odds of a 50 bp hike February 2, followed by nearly 60% odds of another 50 bp hike March 23. After that, one final 25 bp hike is nearly priced in June 22 that would see the policy rates peak near 4.75%. Similarly, can the BOE continue hiking rates even as tighter fiscal policy weighs on growth? Mann speaks Saturday. Sterling has been a laggard and remains stuck near $1.20 after trading as high as $1.2445 in mid-December. We expect sterling to continue underperforming this year and note that the major retracement objectives from the September-December rally come in near $1.1645 (38%), $1.14 (50%), and $1.1150 (62%).

Turkey reported December CPI data. Headline came in at 64.27% y/y vs. 66.70% expected and 84.39% in November, while core came in at 51.93% y/y vs. 53.60% expected and 68.91% in November. While policymakers will be quick to claim victory over inflation, we note that higher base effects from 2021 are the major reason for the drop. Base effects will remain high in January but then quickly subside, meaning a significant drop in inflation is unlikely in 2023. At the last policy meeting December 22, the central bank kept rates steady at 9.0%, as expected. The bank noted that “Considering the increasing risks regarding global demand, the committee evaluated that the current policy rate is adequate.” Monetary policy has entered a new phase as rate cuts are likely to be replaced by macroprudential easing ahead of June elections. In addition, fiscal policy will likely be loosened and add to price pressures.


The yen continues to gain as BOJ tightening expectations remain elevated. USD/JPY broke below the August 2 low near 130.40 to trade as low as 129.50 today before reversing on broad-based dollar gains. That break sets up a test of the May low near 126.35. WIRP suggests nearly 40% odds of liftoff at the March 9-10 meeting and is fully priced in for the April 27-28 meeting. Recent reports suggest the bank will raise its core inflation forecasts close to its 2% target in its Outlook Report for the January 17-18 meeting. Specifically, the bank is expected to raise its FY23 forecast to between 1.6-2.0% and its FY24 forecast to almost 2%. If so, the upgrades would seem to support our view that liftoff is likely to come earlier than we previously anticipated, with risks of a move in Q2 or perhaps even Q1 vs. H2 seen previously. Given Kuroda’s penchant for surprises, we cannot rule anything out right now.

Caixin reported soft December manufacturing PMI. It came in a tick lower than expected at 49.0 vs. 49.4 in November. Services and composite PMIs will be reported Thursday. Services is expected at 46.8 vs. 46.7 in November. Over the weekend, official PMI readings came in much weaker than expected and warns of downside risk for the Caixin readings. Manufacturing came in at 47.0 vs. 47.8 expected and 48.0 in November, while non-manufacturing came in at 41.6 vs. 45.0 expected and 46.7 in November and dragged the composite lower to 42.6 vs. 47.1 in November. Of note, China Beige Book International warned of potential contraction in Q4 GDP and added that full-year growth likely slowed to a mere 2%. While more stimulus is expected this year, growth is likely to remain uneven and subpar due to ongoing viral outbreaks.

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