Dollar Takes the Lead
- Monetary policy trend between the Fed and other major central banks continue to support the USD uptrend.
- The UK’s unfavorable fiscal backdrop is weighing on GBP and gilts.
- China takes more steps to curtail CNH weakness.
USD is breaking higher against most major currencies. The FOMC December 17-18 meeting minutes confirm the bar for more Fed funds rate cuts is high. According to the minutes, “a substantial majority of participants observed that, at the current juncture, with its policy stance still meaningfully restrictive, the Committee was well positioned to take time to assess the evolving outlook for economic activity and inflation, including the economy’s responses to the Committee’s earlier policy actions.” Moreover, “almost all participants judged that upside risks to the inflation outlook had increased.”
The US December Challenger job cuts report is the today’s domestic data highlight (11:30am London) with several Fed speakers scheduled including Harker, Collins, Barkin, Schmid, and Bowman.
GBP/USD is eyeing its April 2024 low at 1.2300 and 10-year UK government yields jumped yesterday as high as 4.82%, the highest since August 2008. The sell-off in GBP and gilts reflect a deterioration in the UK’s fiscal prospects, driven by heightened risk the UK could be entering a period of stagflation.
The latest rise in UK yields virtually wipes out Chancellor Rachel Reeves’ spending buffer of £9.9 billion. As such, the government may have to announce tax hikes and/or spending cuts when it publishes its Spring economic and fiscal forecast on March 26, further dampening economic activity.
The UK December DMP survey of inflation expectations is up next (9:30am London). In November 1-year expectations rose three ticks to 2.8% and 3-year expectations rose two ticks to 2.7%. Both are expected to remain steady in December and remain well above their series lows of 2.5% in October. If so, these readings should keep the Bank of England (BOE) on a very cautious easing path. BOE Deputy Governor Sarah Breeden speaks later today (4:00pm London).
USD/JPY is holding near recent high above 158.00. Japan’s November wage data was mixed and leaves BOJ rate expectations unchanged. Nominal cash earnings came in 0.3pts higher than expected at 3.0% y/y vs. 2.2% in October. However, the less volatile scheduled pay growth for full-time workers matched consensus at 2.8% y/y vs. 2.9% y/y in October, down from a series high of 3% y/y in July. BOJ Governor Ueda suggested last month the BOJ could wait until March to raise rates again as wage trend will be clearer by then. The swap market continues to price-in about 80% odds of a 25bps hike in March.
USD/CNH is range-bound near all-time highs just under 7.4000. The PBOC took more steps to curtail CNH weakness. The PBOC plans to auction a record 60 billion yuan ($8.2 billion) of six-month bills in Hong Kong on January 15. By selling these bills, the PBOC reduces the supply of yuan in the offshore market, making it more expensive to short the currency. Nevertheless, China’s record yield differential with the US will maintain upward pressure on USD/CNH.
China’s economy is still struggling to escape a deflationary spiral. Headline CPI dipped in line with consensus by 0.1% y/y vs. 0.2% in November and core CPI (ex. Food & energy) increased 0.1pts to 0.4% y/y. The decline in PPI eased to -2.3% y/y (consensus: -2.4%) vs. -2.5% in November but remains a source of downside pressure on CPI inflation. To escape the debt-deflation loop, Chinese policymakers need to ramp up fiscal measures to boost consumption.
AUD/USD plunged to new cyclical lows with the next support offered at 0.6170, the October 2022 low. Australia’s soft November retail sales report supports the case for the RBA to start easing at the February 18 meeting. Despite a boost from Black Friday sales, nominal retail sales grew 0.2pts less than anticipated at 0.8% m/m vs. 0.5% in October. Markets continue to price in roughly 74% probability of a 25bps RBA cash rate cut in February.
