Tariff Cuts on Imports From China Likely

US

Key Points

• Wage and price data to show that inflation pressures still strong and widespread.
• Tariff cuts on imports from China are likely.

Fed

There was a significant move this week in the direction of my ‘close to 8%’ FFR call.  LT (5y5y) BEs broke out of their 5 year range while expectations of policy tightening (2y1m forward OIS swap) rose to  post GFC highs.  Basically, the market is losing confidence that the Fed current policy framework can deliver disinflation.

On the Fed side, confidence is not strong either.  This week FOMC officials announced that they would bring the end-2022 FFR to ‘neutral’ i.e. 2.5% by end-year.  Only 5 weeks ago, they saw the end-2022 FFR at 1.9%.

Because the key to my 8% call is that the Fed inflation model and concept of ‘neutral rate’ are flawed (and that inflation has high inertia) this week’s developments add to my conviction, even though the terminal rate currently priced in, about 3.5%, is still far from my target.  I will be publishing an update on my call this week.

The pre-meeting blackout started this weekend.

Data

Last week’s residential real estate data showed only limited change to a still hot market and the Philly Fed and S&P business surveys were on average below expectations. 

Covid cases increased somewhat from very low levels while covid related hospitalizations did not increase.

This is a data rich week.  By order of importance, here are my expectations/comments:

1. ECI.  This is the Fed preferred measure of wage inflation because it takes into account changes in the composition of employment.  For that reason, since the pandemic, ECI has been more correlated with services inflation than AHE (Average Hourly Earnings) that have bobbed up and down with changes in low paid employment.  The consensus assumes a Q0Q ECI change in line with AHE ie 1.1% which makes sense to me since over Q1 low paid employment has been increasing in line with other sectors.  While this will be below inflation it will be at a pace inconsistent with the Fed 2% inflation target.  This highlights inflation inertia: wages tend to follow prices, and vice versa, and in the absence of a deflationary shock, both can only move down at a slow pace.
2. Personal spending.  I will be on the lookout for:
   1. Continued switch between services and goods, which is happening at a slow pace so far.  Durable goods consumption has been surprisingly resilient
   1. A move down in the personal savings rate, that is already back to pre-pandemic levels, but consumer credit is picking up, which tends to be associated with lower savings.  Lower savings could give new dynamism to growth (see US money velocity will likely rise).
3. First estimate of Q1 GDP.  These estimates have tended to get heavily revised since the pandemic.  Then there is Q1 seasonality.  So, I will take the number with a big pinch of salt.  Still, it will give us a sense of where we are starting the year from.   The consensus expects a marked slowdown from 6.9% in Q4 to 1%.  Because in the past the numbers have been so heavily revised, especially real consumption on which I usually base my GDP forecasts, I don’t have a strong conviction for or against consensus. 
4. PCE.  I will be looking for the Dallas Fed estimate of Trimmed mean PCE a more reliable indicator of trend than core. Trimmed mean and mean price CPI have remained close to the highs in March and I expect the same for PCE. The trimmed mean PCE estimates tend to get published around mid-day EST.
5. CB consumer confidence: even the limited improvement the market expect is consistent with a downward trend.  A large upward surprise would confirm the large upside surprise we saw in the UMich index earlier this month and make me wonder if the US economy could be getting a second wind, for instance from the ongoing recovery in credit.
6. Durable goods orders.  I will be looking at capital goods shipment, a proxy for equipment capex.  I agree with the consensus that expects a small acceleration.  I suspect that the March data will reflect the lagged impact of stronger global supply prior to the Ukraine crisis. 
7. Activity indices: Chicago Fed, Dallas Fed, KC Fed which the market generally expects lower.   
8. Real estate market, unemployment claims, trade balance and inventories data.

Events/Political Developments

There were four big takeaways from the IMF spring meeting.  First, and unsurprising, the IMF lowered/increased its global growth/inflation projections.

Second, the breakdown of global cooperation became more obvious.  Neither the G20 nor the International Monetary and Financial Monetary Committee, the IMF governing body, were able to publish a Communique.  Not that these communiques ever say much of substance but IMF and G20 meetings are often where coordinated policy actions are agreed, and their breakdown suggest less global policy coordination going forward.

Third, Western countries failed to rally new supporters to their cause.  The US, UK, EU, Canada delegations walked out during the Russian delegation G20 presentation, but other countries remained.

Fourth, the US did not appear ready to push for more aggressive sanctions against Russia, at least not sanctions that would hurt its economy.  Secretary Yellen argued against an embargo against Russian energy exports and instead suggested payments could be made to an escrow account.  She also did not think that China was undermining sanctions against Russia and was looking at tariff cuts on some imports from China.

Links to New York Fed POMOs/TOMOs:  Repos, Treasury, MBS, CMBS

Other G20 Countries

The BoJ will hold its policy meeting this way and is expected to keep its policy unchanged. The BoC Macklem will be speaking.

Key data releases include PMIs in China and Canada and Australia’s CPI. 

Links to BOJ Rinban , BOE OMO

COVID-19 Monitoring

Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed , the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)