Macro and Prices

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Marc Chandler
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Next week, there are three big events:  the US jobs report, the Reserve Bank of Australia meeting, and the Bank of England's meeting. That said, the final PMI readings may be more helpful this time than we often see because of how quickly it appears activity has stalled. After we review the likely highlights and share a few other observations, we will look at the technical condition of the major dollar pairs.  

On August 3 in Sydney, the Reserve Bank of Australia will likely deliver its third consecutive 50 bp hike. The market has abandoned any thought of a 75 bp move and finished last week with a nearly 75% chance of a 50 bp hike. It had been almost entirely discounted at the end of the previous week. A 50 bp hike will lift the cash target rate to 1.85%. The cycle began in May with a 25 bp hike.   However, by the end of Q3 (which includes the September 6 RBA meeting), the cash target rate is about 2.25%. Yet a significant adjustment has taken place in terms of the year end expectation. The implied rate has fallen to 3% from 3.50% less than two weeks ago. The labor market is strong, and inflation is still accelerating. However, survey data warns that economic activity is slowing. The pullback in commodity prices may impact the terms of trade with a lag. Speculators in the futures market have maintained a net position of over 40k contracts even though the Aussie rallied three cents (almost 4.5%) from the two-year low near $0.6680 on July 14.  

The Bank of England meets the following day. Rising inflation, a strong labor market, and hawkish official comments have encouraged the market to expect more "forceful" action by the BOE. It has hiked the bank rate four times this year in quarter-point increments. The swaps market discounts about a 50% chance of a 50 bp move, which would bring the target to 1.75%. The market has wavered after being nearly fully convinced earlier. After this week's meeting, the Monetary Policy Committee will formally meet three more times, and the swaps market expects 100 bp more in rate hikes will be delivered. There will be a new Prime Minister when it meets in September. One candidate has raised taxes and vigorously defends his record (though now allows for a cut in the VAT). The other wants to reduce taxes and has talked about reviewing the BOE's mandate. The IMF's new forecasts see the UK likely posting the slowest growth among the G7 next year at 0.5%. If Truss wins and delivers, the tax cuts could double that forecast. The last leg lower in sterling from late May through the mid-July low, almost a 10-cent move, took place even as speculators in the futures reduced the net short position from around 80k contracts by a quarter.  

The US July employment report will be released on August 5. The US labor market is losing momentum. That is evident in the gradual rise of weekly jobless claims. The four-week moving average has risen above 240k from 170.5k at the end of March. The anecdotal press coverage tends to focus on job losses rather than hiring, but the reports seemed widespread. Remember that the nonfarm payroll number is the residual of all secured and lost jobs. Given the size of the workforce, several million are gaining and losing jobs a month. Despite the press, economists expect that US businesses increased their employment by 250k. If accurate, it would be the weakest job growth since December 2020, when the US lost jobs (115k). Nonfarm payrolls rose by an average of 375k in Q2 after a 539k average in Q1 and 562k for all last year. Still, it is partly about the context. It is only because of the pandemic-and-response that the 250k will be seen as weak. In none of the four years before Covid was the monthly average of nonfarm payrolls more than 200k.  

Much of the recent string of economic data has been reported below expectations. This suggests the economy is weakening faster than economists in general projected. That warns of downside potential downside risks. A number much below 200k would draw attention,  but before the next FOMC meeting, the August employment report will be made available. As Fed Chair Powell has explained, the headline PCE deflator is targeted for inflation, but full employment has several dimensions, and one number doesn't capture them all.  

The Fed, for example, appears ready to see the unemployment rate rise a little, though it would prefer if the participation rate increased, arguably one of the things outside of its control. The rise in average earnings is moderating slowly. It rose by an average of 0.5% a month in Q4 21, 0.4% in Q1 22, and 0.3% in Q2 22. The year-over-year pace eased each month in Q2 after peaking at 5.6% in March and stood at 5.1% in June. It was 4.9% at the end of last year. Hourly earnings growth of 3.4% in 2018 and 2.9% in 2019 were consistent with subdued inflation.  

There are two other data points that we suggest are often not fully appreciated. The first is auto sales. They trickle in over the course of the day (August 2) and are often hard to interpret on a headline basis. Nevertheless, they often say something about US consumers and industry. Through June, auto sales have fallen about 18.5% year-over-year. Disrupted supply, sticker shock (new car prices are up 12.5% year-over-year in the CPI measure), and higher price fuel may have all contributed. The auto sector is still one of the most important US industries, accounting for around 3.0-3.5% of GDP.  

The other data point that we think may deserve more attention now than perhaps previously is the consumer credit report. In particular, we are interested in revolving credit, the use of credit cards. Our working hypothesis has been that with wages not keeping pace with the rising cost of living, Americans have boosted their borrowing from the past (savings and taking equity out in mortgage refinancing) and the future (revolving credit). Consider that in the first five months of this year, Americans took on more credit card debt than they did all last year ($69.8 bln vs. $67.1 bln). To put this in perspective, consider that credit card debt rose by almost $75.5 bln in 2018 and 2019 combined. After a three-monthly splurge (February-April) when revolving credit increased by $18 bln on average, it slowed abruptly to $7.4 bln in May. Is the consumer tapped?  

Part of the dollar's resilience may reflect the judgment that when everything is said and done, we still live in a world highly sensitive to US developments. The US is sneezing, and others have caught cold. As much as US rates have fallen, they have fallen more elsewhere, in the eurozone, Sweden, and the dollar bloc. At the two-year, the US yield fell 13 bp last week. Germany matched the US decline, but Canada's yield is off 15 bp, Italy's off 30 bp and Spain two-year yield fell more than 21 bp.  Australia and New Zealand yields fell around 25  bp. The US 10-year yield lost eased by 16bp. Canada's benchmark dropped 25 bp.  German and French 10-year yields fell 20-23 bp. Italian, Spanish, and Portuguese benchmark yields dropped 27-30 bp. Australia  10-year yield fell nearly 30 bp.   

Dollar Index:  After falling to 105.55 ahead of the weekend, the lowest level since July 5, the Dollar Index reversed higher. While month-end adjustments could distort the price action, we suspect a near-term low is in place and expect a firmer tone ahead of the jobs report at the end of next week. A move above 106.70 would lend credence to this view. It could signal a return to the 107.50-60 area. That said, a break of 105.35 warns of another leg down toward 104.40.  

Euro:  The euro has chopped broadly sideways for the better part of the past two weeks. A near-term high in the $1.0250-80 area looks to be in place even after the eurozone reported a better than expected Q2 GDP report. Initial support is seen a little below $1.01, but a return to parity or below cannot be ruled out. The political and economic shocks have not yet been fully absorbed. A rise above $1.0250,and ideally the $1.0280 area, is needed to lift the technical outlook and target around $1.04. 

Japanese Yen: The dollar fell precipitously to JPY132.50 ahead of the weekend before recovering to around JPY134.60 as the 10-year US rate stabilized after falling about 45 basis points from the previous week's high. New dollar sales were seen into the bounce and the greenback fell back off, though it held above JPY133.00. The near-term risk attends to JPY135.00 and then JPY135.50. If this constructive view is wrong, the next important support area for the greenback is near JPY131.50. If hedge funds are exiting the structural short yen positions, dollar upticks may prove shallower than technical considerations may allow.  

Sterling:  The pound reached its best level since June 28 before the weekend, just shy of $1.2250. However, it reversed lower and but  neutralized some of the negativity by settling above the previous session's low (~$1.2105) and above the five-day moving average (~$1.2115). A break of $1.21 targets the $1.20 area. A break of the $1.1940 could spur a retest on the two-year lows set on July 14 near $1.1760. On convincing move above $1.2250 could spur another run into the $1.23-$1..24 congestion.  

Canadian Dollar:  The US dollar slipped below CAD1.28 at the end of last week before bouncing back to CAD1.2855, despite the better-than-expected May GDP (flat vs. expectations of a contraction) and the gap higher gains in the S&P 500, which put the finishing touches on its best month since November 2020 (~8.7%). Resistance is seen in the CAD1.2900-40 area. On the other hand, a convincing break of CAD1.28 targets the CAD1.2700-25. Canada reports its July jobs data on August 5. The key labor market development in May and June was a shift from part-time to full-time employment.  

Australian Dollar:  The Australian dollar reached slightly above $0.7030 ahead of the weekend, its best level since June 17, but reversed lower and tumbled to almost $0.6910, a four-day low before finding a bid. It settled well within the previous day's range, helping neutralized the negativity.  A break of $0.6900 would target the $0.6855-60 area, which houses the 20-day moving average and the (50%) retracement of the rally from the July 13 low (~$0.6680). A move above the $0.7055-65 area would lift the tone.  

Mexican Peso: In contrast to the back-to-back quarterly contractions in the US and the US boast that it will grow faster than China, Mexico's economy expanded by 1% in both Q1 and Q2. However, the peso fortunes seem more linked to the broad US dollar performance and the risk environment. The US dollar peaked in mid-July near MXN21.0535 and recorded a low a little below MXN20.21 before the weekend. However, it snapped back  trade to almost MXN20.42. The near-term upside risks extends toward MXN20.55-57. A move above there targets MXN20.75-80. The MXN20.20 area looks like formidable support. 

Chinese Yuan:  The dollar moved into a slightly higher range against the yuan in the second half of July. Amid the dollar weakness ahead of the weekend, the greenback fell to nearly CNY6.7280, a two-and-a-half-week low. The upper end of the range seems to be around CNY6.77. China reports the July PMI and Caixin manufacturing PMI over the weekend, but the dollar's gains into the month-end may give it a firmer tone at the start of the new week against the yuan. The Biden-Xi phone call, which may be a prelude to a summit, did not seem much of a market factor. Beijing's response to a potential visit by the Speaker of the US House of Representatives in the coming days might not be economic in nature. There continues to be talk that the Biden administration is considering lifting some tariffs on Chinese goods imposed by the previous administration. We are suspicious that it would significantly impact US-Chinese trade or US inflation measures.