USD is trading on softer footing heading into NFP report

USD/JPY: Dovish Powell comments & Rengo wage demands weigh

The US dollar has continued to weaken overnight following yesterday’s sell-off that resulted in the dollar index closing below support from the 200-day moving average for the first time since the start of February. It was the fourth consecutive day that the dollar index has closed lower. Downward momentum for the US dollar was reinforced yesterday both by comments from Fed Chair Powell and softer US labour market data ahead of the release of the nonfarm payrolls report on Friday. In the semi-annual testimony Fed Chair Powell remained optimistic over the outlook for a soft landing for the US economy. It has made the Fed believe that the policy rate “is likely at its peak for this tightening cycle”, and “if the economy evolves broadly as expected, it will likely be appropriate to begin dialling back policy restraint at some point this year”. Chair Powell reiterated though that the Fed “does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2 percent”. In this regard the policy message provided by Chair Powell was similar to at the last FOMC meeting on 31st January. The exact timing of the first Fed rate cut remains unclear although Chair Powell later indicated that the hurdle for a rate cut appears to be relatively low when he stated “let’s see a little bit more data so we can become confident”.

Another dovish comment that caught our attention was when Chair Powell stated “if the economy evolves as we hope, interest rates will need to come down significantly over the coming years”. With the Fed policy rate currently above the Fed’s estimate of the neutral territory at closer to 3.00%, there is plenty of scope for he Fed to lower rates if inflation continues to slow back to target. A softening of the labour market would also encourage the Fed to lower rates. In recent days, US labour market indicators have been supportive for Fed rate cut expectations. The ISM services employment sub-component declined by 2.5 point to 48.0 in February, the ADP survey estimated that private employment growth slowed to 140k in February, and the latest JOLTs report revealed that the quits rate fell to a fresh low of 2.1% in January indicating that wage growth is likely to slow further. The data has encouraged expectations for a softer nonfarm payrolls report tomorrow following the blowout report for January.

US dollar weakness has been most evident overnight against the yen that has resulted in USD/JPY falling back below the 148.00-level. The yen has benefitted more broadly as well by the announcement from the Japanese Trade Union Confederation (known as Rengo) that its affiliated unions demanded an average wage increase of 5.85% at this year’s spring pay talks. It was the first time that wage demands exceeded 5% in 30 years and compares to last year’s demand for a wage increase of 4.49%. In the final tally from last July, the Union was able to achieve 3.58% wage increase in FY 2023. The wage demands from Japan’s largest trade union should make the BoJ more confident stronger wage growth can be sustained in the year ahead, and encourage an exit from current loose policy settings. The BoJ’s preferred measure of wage growth, labour cash earnings that excludes sample changes, held at 2.0% in January. It supports our expectation for the BoJ to exit negative rates this month. When speaking overnight BoJ board member Nakagawa noted that they are still collecting info ahead of the March meeting although she did caution that strong wage results alone do not mean the inflation goal is achieved. She believes that the certainty of reaching he inflation goal is rising. A message repeated by Governor Ueda who told parliament that the chance of reaching their inflation target is getting higher little by little.

US QUITS RATE CONTINUES TO SIGNAL SLOWING WAGE GROWTH

Source: Bloomberg, Macrobond & MUFG GMR

EUR: Will the ECB indicate that rate cuts are moving closer?

The broad-based US dollar sell off has helped to lift EUR/USD to a high yesterday of 1.0915 ahead of today’s ECB policy meeting. We are expecting the ECB to indicate that they are moving closer to cutting rates at today’s policy meeting although that the timing of he first rate cut is unlikely to be as soon as at the following policy meeting in April. Recent comments from ECB officials have indicated that a June rate cut is emerging as the most likely scenario. It would give the ECB more time to assess if wage growth has continued to slow at the start of this year.

For the euro to correct lower today, the ECB would have to provide encouragement for market participants to price in a higher probability of an April rate cut. One potential catalyst would be a downgrade to the ECB staff forecasts for inflation. The latest forecasts from December already showed that they expected inflation to fall back close to the ECB’s target in the coming years. Headline inflation was expected to slow from an average of 2.7% in 2024 to 2.1% in 2025 and then 1.9% in 2026. A further downward revision today especially if it lowers inflation below target by the end of the forecast horizon would provide stronger justification to begin cutting rates and provide more support for the euro-zone economy that continues to stagnate. We have been continuing to recommend a short EUR/GBP trade idea on the back of our expectations that the ECB will begin to cut rates ahead of the BoE. Yesterday’s UK Budget did not significantly alter our outlook for BoE policy or the pound. The fiscal package was relatively small totalling 0.3% of GDP/year on average over the next five years.

KEY RELEASES AND EVENTS

Country	GMT	Indicator/Event	Period	Consensus	Previous	Mkt Moving
US	12:30	Challenger Job Cuts	Feb	--	82.307K	!
EC	13:15	Deposit Facility Rate	Mar	4.00%	4.00%	!!!
EC	13:15	ECB Interest Rate Decision	Mar	4.50%	4.50%	!!!
US	13:30	Initial Jobless Claims	--	217K	215K	!!!
US	13:30	Nonfarm Productivity (QoQ)	Q4	3.1%	3.2%	!!
US	13:30	Trade Balance	Jan	-63.40B	-62.20B	!!
US	13:30	Unit Labor Costs (QoQ)	Q4	0.7%	0.5%	!!
EC	13:45	ECB Press Conference	--	--	--	!!!
US	15:00	Fed Chair Powell Testifies	--	--	--	!!!
EC	15:00	ECB President Lagarde Speaks	--	--	--	!!
US	16:30	Atlanta Fed GDPNow	Q1	2.5%	2.5%	!!
US	16:30	FOMC Member Mester Speaks	--	--	--	!!

Source: Bloomberg