Drivers for the Week of February 2, 2025

February 02, 2025
Here's a look at the main drivers in Developed Markets this week.

The dollar mounted a broad-based recovery. JPY was the only major to gain against USD, while SEK, AUD, and CAD underperformed. The strong U.S. economy, hawkish Fed, and tariff threats all conspired to push the dollar higher and those drivers are set to continue this week. Most importantly, the U.S. is pushing ahead with 25% tariffs on Canada and Mexico along with 10% tariffs on China, which should help keep the dollar firm and risk assets under pressure.

AMERICAS

The tariff wars have begun. President Trump announced over the weekend that 25% tariffs on Canada and Mexico as well as 10% tariffs on China will go into effect at 1201 AM ET Tuesday. No reason was given for the small delay but we assume it’s meant to give a small window for these countries to make some concessions in a last ditch attempt to avoid the tariffs. Trump also said that he will “absolutely” impose tariffs on the EU, but nothing further has been announced.

Retaliation is coming. Canadian Prime Minister Trudeau announced 25% tariffs on over $100 bln of U.S. goods. Mexican President Sheinbaum also pledged retaliation but has not yet made any concrete announcement, while China promised “corresponding countermeasures.” Elsewhere, the EU said it will “respond firmly” if tariffs are imposed. The U.S. has pledged to raise tariffs even higher in the event of any retaliation.

It’s no secret that these three countries are the top trading partners of the U.S. Our total trade with Mexico was nearly $750 bln in 2023, followed by nearly $715 bln with Canada and nearly $600 bln with China. According to the Census Bureau, the top U.S. imports from Mexico are vehicles, vehicle parts, and computers. The top imports from Canada are crude oil, vehicles, and vehicle parts. Lastly, the top imports from China are cell phones, computers, and toys.

The dollar will most likely strengthen on this news. That said, it remains a fool's errand to try and trade this tariff noise. We continue to look through it and focus on the main drivers of dollar strength this past year and that's U.S. economic outperformance and a hawkish Fed. These drivers will persist regardless of the outcome of this tariff debate.

Fed officials will continue to present their own takes on the recent FOMC decision. We still suspect the hawks are not happy with Powell’s rather dismissive take on the change in the policy statement that omitted the phrase about progress towards the 2% target. With most inflation measures now closer to 3% than to 2%, now is not the time to sound dovish. Bostic and Musalem speak Monday. Bostic, Daly, and Jefferson speak Tuesday. Barkin, Goolsbee, Bowman, and Jefferson speak Wednesday. Waller and Logan speak Thursday. Bowman and Kugler speak Friday. Expect officials to be quizzed about the potential impact of the tariffs on inflation and Fed policy.

Jobs data Friday will be the highlight of a busy week. Bloomberg consensus for NFP is 170k vs. 256k in December, while its whisper number stands at 184k. Both would be consistent with a healthy labor market. For reference, NFP gains have averaged 170k per month over the past three months. The unemployment rate is expected to remain unchanged at 4.1% while average hourly earnings are expected at 3.8% y/y vs. 3.9% in December. Overall, wage growth is running around sustainable rates consistent with the Fed’s 2% inflation target given annual non-farm productivity growth of around 2%. Of note, the final benchmark revisions to the establishment survey employment will be issued along with the January jobs report. The preliminary estimate of the benchmark revision released last August indicated an adjustment to the March 2024 total nonfarm employment of -818k (-0.5%). Ahead of the jobs data, ADP reports its private sector jobs estimate Wednesday and is expected at 150k vs. 122k in December.

ISM PMIs for January will be important. Manufacturing will be reported Monday. Headline is expected at 49.9 vs. 49.2 in December, while prices paid is expected at 54.8 vs. 52.5 in December. The regional Fed ISM manufacturing surveys point to upside risk. Of note, the S&P Global manufacturing PMI rose to a 7-month high of 50.1 in January vs. 49.4 in December. ISM services will be reported Wednesday. Headline is expected at 54.1 vs. 54.0 in December. The regional Fed ISM services prints point to downside risk. Of note, the S&P Global services PMI fell to a 9-month low of 52.8 in January vs. 56.8 in December.

JOLTS data Tuesday will also be important. Job openings are expected at 8.000 mln vs. 8.098 mln in November. The ratio of job openings to unemployed stood at 1.1 in November, which is historically strong as that ratio has been above 1 only three times since 1960. Encouragingly, the job openings rate of 4.8% in November remains well above the 4.5% threshold that typically signals a sharp rise in the unemployment rate.

Other key labor market data will be reported. Q4 nonfarm productivity, unit labor costs, weekly jobless claims and January Challenger job cuts will all be reported Thursday. Productivity (GDP/hours worked) is expected at 1.4% q/q vs. 2.2% in Q3, while ULC is expected at 3.4% q/q vs. 0.8% in Q3. Importantly, annual productivity growth is running close to its post-war average of 2.1%. Rising productivity leads to low inflationary economic growth which translates to higher real interest rate and an appreciation in the currency over the longer term.

University of Michigan consumer sentiment for February will be reported Friday. Headline is expected at 72.0 vs. 71.1 in December. Current conditions are expected to fall to 73.5 while expectations are expected to rise to 71.0. Watch out for rising inflation expectations as recent data indicate inflation may be stalling above 2%. In January, one-year inflation expectations unexpectedly rose 0.5 ppt to 3.3%, the highest level since May, while inflation expectations 5 to 10 years out rose 0.3 ppt to 3.3%, the highest level since June 2008.

Canada highlight will also be jobs data Friday. Consensus sees a 25.0k rise in jobs vs. 91.0k in December, while the unemployment rate is expected to rise a tick to 6.8%. Overall, the labor market remains soft and firms’ hiring intentions are muted. The market is pricing in 50-75 bp of further easing over the next 12 months that should see the policy rate bottom at the lower end of the BOC’s neutral range estimate of 2.25-3.25%. The BOC has warned that a long-lasting and broad-based trade conflict would badly hurt economic activity in Canada and put direct upward pressure on inflation. This complicates the BOC’s job as monetary policy cannot lean against weaker output and higher inflation at the same time. The risk of all-out trade war between Canada and the U.S. can trigger a more pronounced USD/CAD overshoot.

January PMIs will also be important for Canada. S&P Global manufacturing will be reported Monday, followed by its services and composite PMIs Wednesday. Ivey PMI will be reported Thursday.

EUROPE/MIDDLE EAST/AFRICA

Eurozone highlight will be January CPI data Monday. Headline inflation is expected to remain steady at 2.4% y/y and core inflation is expected to fall a tick to 2.6%. Italy also reports Monday and its EU Harmonised inflation is expected to remain steady at 1.4% y/y. The already released regional EU harmonized CPI prints were mixed. Germany’s matched consensus at 2.8%y/y and was steady from December, France’s was a tick lower than expected at 1.8% y/y and was steady from December, while Spain’s was a tick higher than expected at 2.9% vs. 2.8% in December. December PPI will be reported Wednesday.

ECB staff will publish an update on the neutral rate Friday. The ECB’s current neutral range estimate is between 1.50-3.00%. The markets firmed up bets of additional ECB rate cuts after eurozone GDP unexpectedly stagnated in Q4 and the ECB warned of additional headwinds in the near-term. Markets now expect the policy rate to bottom over the next 12 months at 1.75% vs. 2.00% previously. The ECB reports its wage tracker indicators Wednesday. Simkus speaks Monday. Villeroy speaks Tuesday. Lane speaks Wednesday. Nagel and Escriva speak Thursday. Guindos speaks Friday.

Bank of England meets Thursday and is expected to cut rates 25 bp to 4.5%. The quarterly Monetary Policy Report with updated macro forecasts will be released at the same time. Most indicators of U.K. near-term activity have weakened, while services inflation cooled more than the BOE anticipated in December. There is a risk that at least one MPC member supports a larger 50 bp cut. The usual suspects that could cast a vote for a jumbo cut are Dhingra, Ramsden, and Taylor.

We expect the BOE to stick with its quantitative tightening (QT) plan. Recall that in September 2024, the MPC voted unanimously to reduce the stock of UK government bond purchases by GBP100 bln over the next 12 months to a total of GBP558 bln. There are no compelling reasons for the MPC to change gears on QT as UK 10-year gilt yields are drifting lower again and are largely guided by US 10-year Treasury yields. If we’re wrong, it would likely add to downside pressure on GBP.

Finally, we expect the BOE to maintain its policy guidance. That is, “A gradual approach to removing monetary policy restraint remains appropriate. Monetary policy will need to continue to remain restrictive for sufficiently long until the risks to inflation returning sustainably to the 2% target in the medium term have dissipated further.” Markets are pricing in a total of 75 bp of total easing over the next 12 months, which seems about right. Chief Economist Pill speaks Friday.

January Decision Makers Panel inflation expectations will be reported Thursday. 1-year expectations are expected to remain steady after rising two ticks in December to a nine-month high of 3.0%. 3-year expectations rose two ticks in December to a 13-month high of 2.9%. Both series remain well above their series lows of 2.5% in October and will likely keep the Bank of England on a cautious easing path.

Riksbank minutes from the January policy meeting Tuesday. At that meeting, the Riksbank cut rates 25 bp to 2.25%, as expected. According to the post-meeting statement, “The Executive Board assesses that the forecast for the policy rate made in December essentially holds, but is prepared to act if the outlook for inflation and economic activity changes.” In December, the Riksbank projected the policy rate to bottom at 2.25%. In contrast, markets continue to price in a lower terminal rate of 2.00% over the next 12 months. Bottom line: Fed/Riksbank policy divergence favors a higher USD/SEK.

Sweden data highlight will be January CPI Thursday. Headline is expected to fall a tick to 0.7% y/y, while the policy relevant CPIF is expected to remain steady at 1.5% y/y. If so, CPIF would remain well below the 2% target. CPIF Ex-energy is expected to rise a tick to 2.1% y/y. For reference, the Riksbank forecasts CPIF and CPIF ex-energy at 1.8% and 2.4% in January, respectively. Sweden’s benign inflation backdrop suggests it’s too soon for the Riksbank to pause easing.

ASIA

Bank of Japan releases the summary of opinions for its January 23-24 meeting Monday. At that meeting, the bank delivered the widely expected 25 bp hike to 0.5%. Importantly, the BOJ reiterated that “if the outlook presented in the January Outlook Report will be realized, the Bank will accordingly continue to raise the policy interest rate and adjust the degree of monetary accommodation.” The BOJ also warned that the “virtuous cycle between wages and prices will continue to intensify” as firms' behavior has shifted more toward raising wages and prices. Still, Governor Ueda cautioned that the policy path will be guided by checking the impact of rate hikes already undertaken. This argues against an aggressive pace of tightening. The BOJ also issued updated macro forecasts in its Outlook Report. The growth forecasts were little changed but the inflation were raised significantly. Tamura speaks Thursday.

Japan data highlight will be December cash earnings data Wednesday. Nominal earnings are expected at 3.5% y/y vs. 3.9% in November, while real earnings are expected flat y/y vs. 0.5% in November. Scheduled full-time pay is expected to remain steady at 2.7% y/y. We know the BOJ is focused on wage trends, especially the upcoming annual spring wage negotiations. No surprise then that the next BOJ hike isn’t priced in until the fall.

Australia highlight will be December and Q4 retail sales Monday. Nominal retail sales are expected at -0.7% m/m vs. 0.8% in November. In volume terms, retail turnover is expected at 0.8% q/q vs. 0.5% in Q3. However, as the RBA points out, “the extent to which this reflected a sustained recovery in consumer demand, rather than a pull-forward in expenditure in response to emerging patterns of promotional activity, was not clear.” Following Australia’s soft Q4 CPI print, markets have moved to nearly fully price in a 25 bp cut to 4.10% at the next meeting February 18 along with a total of almost 100 bp of total easing over the next 12 months. Bottom line: RBA/Fed policy divergence and sluggish Chinese economic activity can further weigh on AUD.

New Zealand highlight will be Q4 labor market data Wednesday. Employment is expected at -0.2% q/q vs. -0.5% in Q3, whereas the RBNZ has penciled in a -0.3% decline. The unemployment rate is expected to track the RBNZ’s forecast and rise three ticks to 5.1%. Private wages are expected at 0.6% q/q vs. 0.6% q/q in Q3 and marginally higher that the RBNZ’s 0.5% projection. In line with RBNZ guidance, markets continue to imply another 50 bp rate cut to 3.75% at the February 19 meeting and the policy rate to bottom near 3.00% over the next 12 months. Bottom line: RBNZ/Fed policy divergence remains a drag for NZD.

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