China | Emerging Markets | Europe | Global | Monetary Policy & Inflation | UK | US
Key Events: FOMC to React to CPI
- By Dominique Dwor-Frecaut, Ben Ford and Henry Occleston
- 10 min read
US – Europe – $-Bloc and Scandies – China/Japan
US
Summary
- CPI to continue to show core services inflation resiliency.
- Fed speakers to give their take on the CPI.
Fed
Fed speakers this week were generally hawkish, starting with Chair Powell, who indicated that the terminal FFR may have to rise if growth and inflation remained strong. Over the past week, the market has begun to fully price the SEP 5.1% terminal rate and added 50 bp to the December 2023 FFR. The market is still pricing one 25bp cut between July and December 2023.
Speakers this week include Bowman (voter, hawk), Logan (voter, dove), Harker (voter, dove), Williams (voter, dove), Mester (non-voter, hawk), Bullard (non-voter, hawk), Cook (voter, dove), Barkin (non-voter, hawk). Except for Bowman, they will all be talking after the CPI.
Data
Following the bumper NFP, the Atlanta Fed raised its GDP nowcast to 2.2%, from 0.7% on February 1. The economic surprise index increased to 24.1 from 19.7 a week ago.
Key data this week include:
- CPI (Tuesday): I see scope for a small negative surprise to the consensus forecast of 0.4 MoM for core inflation, since it seems to reflect, in part, a strong Manheim auction of used cars. However: 1. the Manheim auction is much more volatile than the CPI for used vehicles; 2. used vehicle weight is only 3.7% of headline weights; 3. the ratio of used to new car prices is still much higher than before the pandemic, while car availability is increasing (December 2022 CPI: Goods Price Deflation Still Offsetting High Services Inflation). From the Fed’s perspective, the trend in services inflation will be the most important.
- Retail sales (Wednesday): The consensus forecasts 0.8% for the control group (that is used to compute consumption in the GDP data), following contractions of 0.7% and 0.2% in December and November. In view of current labour market strength, the catch-up the consensus expects for January is too small relative to the November-December contractions. I therefore see scope for either a positive January surprise or positive revisions to December.
- PPI (Thursday): I agree with the consensus.
- Import prices (Friday): I agree with the consensus that implies that the December surge was a one off.
- Empire survey and manufacturing production (Wednesday), Philly Fed survey (Thursday): I agree with the consensus that shows improvements; this is consistent with my view that the worst is over for US manufacturing.
- NAHB Housing market index (Wednesday), building permits and housing starts (Thursday): I agree with the consensus on NAHB index and building permits, but see scope for a positive surprise on housing starts as the residential market is stabilizing.
- NFIB small businesses optimism (Tuesday): I agree with the consensus that implies a modest improvement.
- TIC (Wednesday): I agree with the consensus.
- Jobless claims (Thursday): I agree with the consensus.
Events/Political Developments
President Biden’s State of The Union speech put Republicans on the defensive after he accused them of trying to undermine Social Security and Medicare. The speech could mark the beginning of his re-election campaign.
Links to New York Fed POMOs/TOMOs: Repos, Treasury, MBS, CMBS
Europe: A Big Week for Data
Key Points
- Data this week will provide a good opportunity to test my expectation for ECB hawkishness and BoE dovishness.
- The market is expecting UK labour market data (Tuesday) to show continued strong wage growth, and an unchanged unemployment rate. While I agree with the former, I see risks to the upside in unemployment.
- The market is looking for UK January CPI (Wednesday) to show core inflation momentum continuing to decline. The new weights for the year add a lot of uncertainty, and the sectoral details will probably be more important.
- UK retail sales (Friday) are likely to show continued declines.
- Final Eurozone national CPI releases begin this week (Spain on Wednesday, France on Friday). We will watch closely for signs that core inflation momentum remains resilient.
UK Labour Market Data
UK labour market data is the first key release of the week. The market expects 3-month ILO unemployment to be stable at 3.7%, while total wage growth dips slightly to 6.2% YoY. I would be wary of upside risks to wage growth (Chart 1). But I expect that there may be room for a more bearish outcome for unemployment, given the trend in claimant count (Chart 2).
The BoE has put a lot of weight on the prospect for pausing hikes here. Their latest MPR stressed that should the labour market (wage growth in particular) and services inflation prove more resilient than they forecast, more hiking will be needed. On both counts, a single outturn may not be enough to sway one way or another, and it is worth bearing in mind what the BoE’s forecast with bank rate at 4% are. For unemployment, they see Q4 2023 at 3.7%, leaving more upside risk than downside. Meanwhile, in wage growth, their forecasts sit consistent with c.6% wage growth over the year – a pretty elevated rate. Consequently, the bar is quite high for this week’s outturns to turn sentiment more hawkish.
UK CPI – Watching Core and Services
The BoE have put a high degree of emphasis on services inflation and the return of core to more typical levels. We note that with such aggregated metrics, the change in weightings in January (particularly after a year of such rampant inflation) could have a large effect on the outcome. Those numbers on their own may hence hold less value than normal. More telling, I think, will be the changes in sectoral numbers – and whether the proportion of sectors still seeing inflation above trend remains <6 (Chart 3). I see a risk that the proportion rises back, but even so, I would consider a stabilisation around 6 to be dovish.
UK Retail Sales Likely to Continue Falling
The UK consumer remains under enormous pressure. Friday’s retail sales data for January will probably show that the decline in real spend has continued. The market is looking for a -0.2% MoM decline (both including and excluding fuel), which would be a deceleration from December’s number (-1.1% ex-fuel). The spread of estimates is very wide, so a surprise is likely. Since September it has tended to surprise to the downside, and I expect this is probably likely to continue for now.
Final French and Spanish CPI – Watching for Sector Details
Eurozone core CPI came out high in its preliminary reading at 5.2% YoY, versus market expectations for 5.1%. However, the number included only estimates of German data (due to a software error within the German statistical office) and (as noted above), the annual change in weightings made like-for-like (MoM and YoY) comparisons in the aggregated readings more difficult. This week sees the final release of Spanish (Wednesday) and French (Friday) January inflation. There, we should get a view of the individual sectors and hence be able to strip out the weighting change effects. The market is looking for no change in the aggregate readings, but I expect that there could be hawkish news within the details.
$-Bloc, Scandies and Switzerland
Reserve Bank of Australia
The RBA hiked the policy rate by 25bp to 3.35%, in what proved a hawkish move. On the details of the decision:
- The Q4 CPI print proved hotter than wished for. They noted that underlying inflation printed ‘higher than expected’, with strong domestic demand adding to the pressure – we noted yesterday that core momentum is yet to weaken. Looking forward, ‘it will be some time… before inflation is back to target’.
- The labour market remains way too tight, our model for unemployment is yet to suggest a higher unemployment rate. New forecasts (based on c.3.6% terminal rate) see unemployment reaching 3.75% by year-end.
- A wage-price spiral scenario has entered their minds. They are paying close attention to developments here. Recall, our AU wage model, which closely tracks the survey outcomes of wages (what the RBA tracks), suggests strong upside to the WPI.
- They reserved one paragraph for some dovish commentary, noting the infamous lag. More importantly, they noted that mortgage payments are yet to be fully affected by hikes. As we have long stated, the roll over to floating will begin around March – building our thesis for an RBA pause in April.
- Looking forward, ‘further increases in interest rates will be needed over the months ahead’, the SoMP highlighted at least two. We think a 25bp hike will be delivered in March and now think April is a strong possibility. In reality, April and May will come down to how much of a downturn we have in survey data. For now, markets are pricing a 4.1% terminal rate (three more 25bp hikes).
Following the decision, GBP/AUD shot lower. We decided to close the trade at 1.73, with weakness looking to have run its course. We think AUD strength remains and are looking at AUD/NZD to rotate, but want it to cleanly break 1.10 first. Elsewhere, AUD/CAD has fallen 2.5% since we noted it was ripe for tactical retracement. The fall likely continues with US data continuing to prove better than expected, while the China reopening theme looking tired.
The next week is busy. The NAB Business Survey (Tuesday) – I will be watching for any further pullback in consumption demand data – will prelude an update to consumer inflation expectations and the January labour force survey (Thursday). Governor Lowe’s testimony will close out the day, and the week.
Bank of Canada
It was a weirdly unbusy busy week in Canada with two brand new releases: BoC market participants survey and the summary of deliberations. Instead, markets focused on Governor Lowe’s speech and the checklist he laid out for markets:
- It will take an accumulation of data to force another hike from the BoC; they want data to fall ‘broadly in line’ with forecast.
- Goods inflation to collapse and services inflation to moderate (Chart 8 of speech).
- An easing labour market. In particular, the 41 indicators are improving; productivity is returning to trend (notably, services productivity); wage growth retreats as indicated by surveys.
- Normalisation of price-setting behaviour (survey price expectations; Chart 7 of speech)
The labour force was first to be updated. There, markets have jumped the gun; CAD 2Y OIS swaps pushed 15bps higher following the January labour market update. While the update is strong, it also showed wage growth retreating and is short of the full picture the BoC are looking at. They will want to get their eyes on productivity numbers (3 March), too.
Recall, the bar has been raised for another hike; an accumulation of data is needed. More so than before. Should core inflation (21 February) turn over – as indicated by core inflation momentum – and inflation expectations recede, the BoC likely stays put in March.
Reserve Bank of New Zealand
Less than two weeks until the February meeting. We continue to expect a 50bps hike, with data this week doing little to convince us otherwise.
The BusinessNZ Manufacturing PMI proved the only interesting release (Table 4). It shows the sector out of contraction. But, importantly to us, it shows new orders/demand remaining in contractionary levels. The Services equivalent is out next week.
Lastly, we closed our paying USD vs NZD two-year OIS trade. The position has benefited 70bp since mid-December. We continue to see value in positioning for an underpriced RBNZ cuts; ZBH4 and ZBU4 look attractive – note to follow.
Norges Bank
CPI beat forecasts (Chart 5). Big time, too. Core inflation rose to 6.4% YoY, 0.5pp above forecast. It might prove hard for Norges Bank to stop at 3.25%. Core inflation momentum will prove the caveat with CPI-ATE excluding food and energy accelerating lower (Chart 6).
Riksbank
Governor Thedéen’s first meeting proved hawkish. We expect a 25bp hike to follow in March. Markets are pricing the possibility of another 50bp. The meeting revealed a plan for active QT; the Riksbank will sell SEK3.5bn per month of government bonds, starting April and excluding July and August. The largest holdings are in the five-, 10-, and 15-year bonds. New forecasts reveal a five-quarter recession with a small weakening to the labour market. (Core) inflation is expected to return to target by Q4 2023 (Q1 2024).
You can read our full review here.
Turning to the currency, SEK has found a solid footing. A hawkish narrative likely continues next week while key data will not arrive until the week after in Europe. Weaker equities are supporting SEK, too. There is value in fading EUR/SEK strength over the next week, but the trend higher will last.
And in rates, we closed our paying EUR vs SEK 2Y swaps trade, thankfully, before the meeting. It closed up 19bps.
China/Japan
