Inflation in focus again as the dollar hits a new low

USD: Positioning may now be the FX driver

As we approach the end of the final week of full trading of the year, the dollar has recovered somewhat but weakened yesterday and the DXY hit a new low not seen since July with momentum in these relatively quiet markets now probably playing a role. The US GDP data for Q3 is old data at this stage and tends not to trigger much in the way of moves given it is the third and final estimate. Nonetheless, given the key macro development driving lower yields and the dollar is the speed in which inflation is falling, the downward revision to core PCE inflation in the Q3 GDP data was notable and has helped reinforce the theme of a sharp decline in inflation. UST bond yields did not respond but the dollar nonetheless weakened further. This could be a reflection of positioning now playing a key role as market participants close out FX positions before the end of trading today. The final piece of macro data will be released from the US later with the PCE inflation data for November. Given the downward revision to Q3 core PCE inflation and the recent downside surprises in general, the dollar selling ahead of this release may also be in anticipation of a weaker than expected print. A consensus increase in the MoM core PCE inflation rate today (0.2%) is likely to mean the 6mth annualised gain will fall to the Fed’s 2% target level and will be another powerful indication that the inflation problem and the view that underlying inflation pressures were “sticky” is simply no longer the case.

The Fed last week downgraded its forecast for core PCE inflation in 2024 to 2.4% from 2.6% previously. But if the downward momentum in the inflation data is to persist for another month or two the 2024 forecasts will quickly be looking too high and with that the dots profile of just three rate cuts being implemented in 2024 will look increasingly unrealistic.  

So a benign print today that confirms for example that the 6mth annualised core PCE rate has hit the 2.0% target will certainly reinforce the prospect of the Fed cutting rates as early as March. However, that is now close to fully priced with 23/24bps priced and hence it is hard to envisage a big rates move today. 155bps of cuts are now priced by end-2024 and over 170bps by January 2025. More than this in total cuts is feasible next year but not just on benign inflation. The Fed would have to start fearing the risk of a hard landing for them to need to cut by more than 150bps – that’s a risk of course but evidence of that doesn’t exist at this juncture and hence the downside for yields from here looks a lot more limited. While the dollar could still extend further weaker due to momentum and positioning in a low-volume market, from a fundamental perspective further dollar selling from here could prove more difficult.

USD REMAINS UNDER DOWNWRD PRESSURE AS INFLATION EASES AND RATE CUT EXPECTATIONS FOR 2024 REACHES 150BPS

Source: Macrobond 

JPY: Inflation slows with BoJ minutes focused on wage growth

Japan’s nationwide inflation data was released this morning and the key measures of inflation were all in line with the market consensus. The key underlying core-core CPI YoY rate slowed from 4.0% to 3.8%, which was the lowest rate since March. This is consistent with the view of the BoJ expressed earlier this week that inflation, driven largely by cost-push factors is peaking out and is set to slow. The key question is whether, helped by wage inflation, Japan can experience stronger demand-pull inflation that helps bring about more sustained inflation. Within the data there were certainly signs of continued underlying strength. Services inflation did accelerate on a YoY basis to 2.3%, the highest level since 1993 and a measure mentioned by Governor Ueda as indicative of underlying inflation pressures.

Still, it is hard to argue against the view that just like elsewhere, the momentum of inflation is turning. The core-core inflation rate on a 6mth annualised basis slowed to 2.9%, down from 3.3% in October and down from a peak of 4.9% just four months ago.  

With the momentum clearly turning lower, the BoJ will want to see evidence that inflation can stabilise at a level much higher than where inflation was prior to the pandemic. The BoJ minutes from the October meeting were released today and members of the policy board agreed that progress was being made in achieving the inflation goal but that uncertainties were high. A view that was clearly maintained at the December meeting this week.

The details suggest that there was not a lot of change in view from the October meeting when YCC was made a little more flexible through altering the description of the top of the band at 1.00% as a reference rate rather than a hard cap. But the minutes showed a high level of caution on achieving the inflation goal and that clearer evidence of wage growth feeding inflation was required.

There has been limited impact in FX markets to the minutes or the inflation data. JGB yields are higher but the JPY is likely to take its direction from the PCE inflation data today with the potential for the yen to sustain its strength through to year-end in the quieter than usual trading period. We continue to run a short EUR/JPY trade recommendation in our FX weekly trade view section. (here)

 

JAPAN’S 6MTH ANNUALISED CORE-CORE CPI RATE

Source: Macrobond & Bloomberg

KEY RELEASES AND EVENTS

Country	GMT	Indicator/Event	Period	Consensus	Previous	Mkt Moving
IT	09:00	Italian Business Confidence	Dec	--	96.6	!
IT	09:00	Italian Consumer Confidence	Dec	103.8	103.6	!
US	13:30	Building Permits	--	1.460M	1.498M	!!!
US	13:30	Building Permits (MoM)	--	-2.5%	1.8%	!!
US	13:30	Core Durable Goods Orders (MoM)	Nov	0.2%	0.0%	!!!
US	13:30	Core PCE Price Index (YoY)	Nov	3.4%	3.5%	!!!!
US	13:30	Core PCE Price Index (MoM)	Nov	0.2%	0.2%	!!!!
US	13:30	Durable Goods Orders (MoM)	Nov	1.7%	-5.4%	!!
US	13:30	Goods Orders Non Def Ex Air (MoM)	Nov	0.2%	-0.1%	!
US	13:30	PCE Price index (YoY)	Nov	2.8%	3.0%	!!
US	13:30	PCE price index (MoM)	Nov	0.0%	0.0%	!!
US	13:30	Personal Income (MoM)	Nov	0.4%	0.2%	!
US	13:30	Personal Spending (MoM)	Nov	0.2%	0.2%	!!
CA	13:30	GDP (MoM)	Oct	0.2%	0.1%	!!
US	15:00	Michigan 1-Year Inflation Expectations	Dec	3.1%	4.5%	!!
US	15:00	Michigan 5-Year Inflation Expectations	Dec	2.8%	3.2%	!!
US	15:00	Michigan Consumer Sentiment	Dec	69.4	61.3	!!
US	15:00	New Home Sales	Nov	695K	679K	!!!
US	15:00	New Home Sales (MoM)	Nov	--	-5.6%	!!

Source: Bloomberg