Pump It Up

• A more dovish Fed and a strong US economy should keep fueling appetite for risk. There are no US economic data releases today.

• Bank of Japan delivered a dovish hold. JPY underperforms.

• UK consumer spending heats up, reinforcing the case for a cautious BOE easing cycle. GBP outperforms.

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USD is trading heavy near recent lows against most major currencies. Asian equity markets tracked US and European stocks higher. The US yield curve (10 minus 2-year Treasury yields) steepened further and is the most positive since March 2022, indicative of an encouraging US growth outlook.

A more dovish Fed and a strong US economy should keep fueling appetite for risk and lead to a weaker USD. Yesterday’s unexpected drop in US weekly initial jobless claims supports the view the labor market is in solid condition. The 4-week moving average for initial claims fell to 227.5k, the lowest since early June.

There are no US economic data releases today. Philadelphia Fed President Patrick Harker (non FOMC voter) gives a lecture on the Fed (7:00pm London). In the Eurozone, September consumer confidence is due (3:00pm London) and ECB President Christine Lagarde gives a lecture on central banking (4:00pm London).

JPY is underperforming against most major currencies. Bank of Japan (BOJ) delivered a dovish hold. As was widely expected, the BOJ unanimously voted to keep the overnight call rate at 0.25%. However, the updated policy guidance and comments from BOJ Governor Kazuo Ueda signal the BOJ is in no rush to remove policy accommodation.

While Ueda reiterated during his post-meeting press conference plans to tighten policy further if the outlook for economic activity and prices is realized, that sentence was omitted in the latest BOJ Statement on Monetary Policy. Instead, the statement warned that considering the risks to the outlook remain high, “it is necessary to pay due attention to developments in financial and foreign exchange markets and their impact on Japan's economic activity and prices.”

In fact, Ueda emphasized again that financial market is still unstable and upside inflation risks have eased. Ueda added there was no schedule for how long it will take to decide on the next hike as the BOJ keeps assessing the impact of the two rate hikes this year.

Japan interest rate futures continue to imply just 25 bp of rate rise in the next 12 months, which is about right in our view. Nevertheless, US-Japan interest rate differentials in both nominal and real terms can further weigh on USD/JPY as the Fed kicked-off an easing cycle.

Japan August CPI print matched consensus. Headline CPI inflation quickened to 3.0% y/y vs. 2.8% in July. Core (ex-fresh food) rose one tick to 2.8% y/y (BOJ 2024 forecast: 2.5%) and Core (ex-fresh food & energy) increased one tick to 2.0% y/y (BOJ 2024 forecast: 1.9%). Overall, underlying inflation in Japan remains in a firm downtrend and argues for a cautious tightening cycle.

USD/CNH is breaking lower on USD weakness. The People’s Bank of China (PBOC) left the policy-relevant seven-day repo rate unchanged at 1.70%. The PBOC also kept the 1 and 5-year loan prime rates steady at 3.35% and 3.85%, respectively. Regardless, China’s huge debt overhang (total debt more than 300% of GDP) blunts the effectiveness of monetary policy at shoring-up economic activity.

GBP continues power forward against all major currencies. UK August retail sales growth overshot expectations and reinforces the case for a cautious Bank of England (BOE) easing cycle. Retail sales volumes surged 1.0% m/m (consensus: 0.4%) following a rise of 0.7% in July (revised up from 0.5%) driven by unseasonably strong food and clothing sales. Better weather and end-of-season sales contributed to rises in sales volumes.

Yesterday, the BOE left the policy rate unchanged at 5.00% and noted that “in the absence of material developments, a gradual approach to removing policy restraint remains appropriate.”

Indeed, the threshold for an aggressive BOE easing cycle is high. First, the BOE’s decision to stand pat was backed by a strong 8-1 majority. Only Swati Dhingra supported a 25 bp cut. Second, the BOE reiterated “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 had dissipated further.”

The BOE also voted to reduce the stock of UK government bonds by £100bn over the next 12 months. This is the same pace as the previous 12 months. The BOE estimates quantitative tightening to have had little impact on gilt yields, the real economy, and market functioning.

USD/CAD is trading sideways. Canada’s July retail sales report is the domestic focus (1:30pm London). Statistics Canada’s advanced retail indicator suggests sales increased 0.6% m/m after falling -0.3% in June. Regardless, slower inflation and growing slack in the labor market argues for a 50 bp Bank of Canada (BOC) policy rate cut at the next October 23 meeting. The swaps market price-in 36% odds of such a cut. The dovish BOC policy outlook contrasts sharply with the Norges Bank’s policy guidance and points to a lower CAD/NOK.

Yesterday, the Norges Bank delivered a hawkish hold. As was widely expected the bank left the policy rate steady at 4.50%. However, the Norges bank continued to lean against the swaps market pricing for an earlier and deeper easing cycle. The Norges bank highlighted “the policy rate will likely be kept at 4.5 percent to the end of the year” with a first full 25 bp cut implied for Q2 2025. The new policy guidance is similar to the one made in June “but indicates a slightly faster decline in the policy rate through 2025”.