Euro Hurt by Soft CPI Data

August 29, 2024

Win Thin

Fed officials remain cautious; weekly jobless claims will be closely watched; we get a revision to Q2 GDP data
Eurozone August CPI data began rolling out; Sweden reported Q2 GDP data; Israel delivered a hawkish hold
Japan government upgraded its view of the economy in August; Australia Q2 capex survey was weak; August ANZ business confidence rose sharply

The dollar recovery continues. DXY is trading higher for the second straight day near 101.217. The euro is leading the foreign currencies lower after soft Spanish and German state CPI data (see below), while sterling is holding up better and trading flat near $1.3190. We see scope for EUR/GBP to continue falling. USD/JPY is trading lower near 144.50. With the U.S. 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. While we believe that the dollar remains vulnerable until the dovish Fed narrative changes, its recent resilience is encouraging.

AMERICAS

Fed officials remain cautious. Atlanta Fed President Bostic said that while it “may be time to cut,” he wants to see a little more data to support the decision. He added that “I don’t want us to be in a situation where we cut and then we have to raise rates again. So, if I’m going to err on one side, it’s going to be waiting longer just to make sure that we don’t have that up and down.” Bostic pointed out the US labor market is still quite strong by historical standards and inflation still has some distance to fall. Bostic’s comments are not surprising as he’s one of the leading hawks on the FOMC. Bostic speaks again later today. The market still sees 100 bp of easing by year-end, with 200 bp total seen over the next 12 months. Odds of a 50 bp move in September are between 30-35%.

Weekly jobless claims will be closely watched. Initial claims are expected at 232k, same as last week. Continuing claims will be for the BLS survey week and are expected at 1.870 mln vs. 1.863 mln last week. Bloomberg consensus for August NFP is 155k vs. 114k in July, while its whisper number currently comes in at 150k. With Powell’s focus on the labor market, it’s clear that the jobs data is the most important reading for policy. If we get a strong August NFP (above 200k), 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.

We get a revision to Q2 GDP data. Headline is expected to remain steady at 2.8% SAAR, while personal consumption is expected to fall a tick to 2.2% SAAR. The preliminary data showed underlying economic momentum was strong as real private domestic final purchases, which comprises private consumption expenditure and private fixed investment, was the strongest growth tailwind. July wholesale and retail inventories, advance trade balance, and pending home sales will also be reported today.

Q3 growth still appears to be solid. The Atlanta Fed’s GDPNow model is tracking Q3 growth at 2.0% SAAR and will be updated tomorrow after the data. Elsewhere, the New York Fed’s Nowcast model is tracking Q3 growth at 1.9% SAAR and will also be updated tomorrow. 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.

EUROPE/MIDDLE EAST/AFRICA

Eurozone August CPI data began rolling out. Spain’s EU Harmonised inflation came in a tick lower than expected at 2.4% y/y vs. 2.9% in July. Germany reports later today and is expected at 2.2% y/y vs. 2.6% in July. However, German state data already reported today points to downside risks to the national reading. Of note, Spain is one of the few eurozone countries to report core inflation, which came in a tick higher than expected at 2.7% y/y vs. 2.8% in July. France and Italy report tomorrow. France’s EU Harmonised inflation is expected at 2.1% y/y vs. 2.7% in July, while Italy’s is expected at 1.3% y/y vs. 1.6% in July. Eurozone CPI will also be reported tomorrow. Headline is expected at 2.2% y/y vs. 2.6% in July, while core is expected at 2.8% y/y vs. 2.9% in July. Attention will also be on services inflation, which has been sticky around 4% y/y since November 2023. Overall, the disinflationary process has stalled in the past few months but is tracking the ECB’s 2024 projections.

There are key ECB speakers this week. Lane and Nagel speak today. Earlier, Patsalides said that If the ECB’s projections “continue to materialize, there’s nothing to prevent the Governing Council from reducing interest rates” but added that “Policymaking is still data-dependent.” With the growth outlook quite soggy, the ECB is widely expected to resume easing in September. 75 bp of total easing by year-end is nearly priced in.

Sweden reported Q2 GDP data. Real GDP fell -0.3% q/q vs. -0.8% expected and a revised 0.8% (was 0.7%) in Q1. The downturn in Q2 was mainly due to changes in inventories. Household final consumption also contributed to the decline, while net exports were the biggest growth tailwind. In line with the Riksbank’s guidance, the swaps market continues to more than fully price in 75 bp of rate cuts by year-end. Indeed, the market now sees over 50% odds of an additional 25 bp of easing by year-end.

Bank of Israel delivered a hawkish hold yesterday. Rates were kept steady at 4.5% but Deputy Governor Abir said “I would be very surprised if the conditions are in place for an interest rate cut before the end of the year.” He added that “The surprise has been how long the war has been going on. This has slowed growth but has also had an impact on inflation, and it’s one of the reasons it is now once again out of our target range.” Lastly, Abir said that “In my estimate, it will take until the end of next year before it comes back into the target.” Despite the hawkish hold, the swaps market is still pricing in 50 bp of total easing over the next 12 months that would see the policy rate bottom near 4.0%.

ASIA

Japan government upgraded its view of the economy in August. The Cabinet Office said the economy is recovering at a modest pace as it raised its outlook for consumer spending for the first time in over a year, noting resilience in spending on goods. It also revised up its outlook for housing construction for the first time in over two years. July IP and retail sales will be reported tomorrow and are likely to confirm a modest but somewhat uneven recovery.

Australia Q2 capex survey was weak. Business investment came in at -2.2% q/q vs. 1.0% expected and a revised 1.9% (was 1.0%) in Q1. The drop in capex was led by lower spending on non-mining building & structures as well as on plant & equipment. Overall, non-mining business investment is a drag to growth and supports the case for an RBA rate cut by year-end.

August ANZ business confidence rose sharply. Headline came in at 50.6 vs. 27.1 in July, while activity outlook came in at 37.1 vs. 16.3 in July. The former was the highest since 2014, while the latter was the highest since 2017. Both are diffusion indexes, and ANZ noted that “The lift was already evident in the early-month responses well before the RBNZ cut the Official Cash Rate, though increasing anticipation of that happy, happy day undoubtedly played a part.” Nonetheless, reported past activity, which has the best correlation to GDP, remains very weak at -23 and is consistent with a contraction in economic activity. Indeed, the RBNZ projects real GDP to fall -0.5% q/q and -0.2% q/q in Q2 and Q3, respectively. August ANZ consumer confidence will be reported tomorrow.

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