December Rate Hike Probabilities:
USD 82.8% – (Increasingly likely)
EUR 2.4% – (Think December 2019)
GBP 88.5% + (Done deal, probably this week)
CAD 24.3% – (Ain’t gonna happen now, maybe June 2018)
Fed Rhetoric 25bps
The one thing that’s truly ‘persistent’
Is price rises are nonexistent
Thus Draghi will keep
The cash rate quite cheap
With any rate hike still quite distant!
Inflation – Inflation is defined as a sustained increase in the general level of prices for goods and services in a county, and is measured as an annual percentage change. Under conditions of inflation, the prices of things rise over time. Put differently, as inflation rises, every dollar you own buys a smaller percentage of a good or service. When prices rise, and alternatively when the value of money falls you have inflation. (from Investopedia)
Once again I will ask, why are central bankers so keen for the rest of us to pay more for the goods and services that we buy on a regular basis? I don’t know about you, but I know that I am perfectly happy when the price of things remains stable over time. And for those things like electronics, where the price falls, I think that is even better. I guess this attitude precludes me from ever being a central banker, but I would be interested to hear from anyone who appreciates rising prices in their daily life. I bring this up because once again inflation, or the lack thereof, is a key topic of discussion. This morning the Eurozone CPI data showed that headline inflation fell to 1.4% (exp 1.5%) while core fell even further to 0.9% (exp 1.1%). This brings to mind the ECB’s recent meeting where they laid out plans to cut the rate of QE purchases in half starting in January 2018, and retain the current interest rate structure (Deposit rate of -0.4%) for an extended period of time beyond the end of QE. Remember, Signor Draghi said that the ECB will remain “…patient and persistent” in their easy money stance. Well, certainly today’s CPI data will not have changed that view.
Interestingly, Eurozone GDP data continues to improve, with Q3 printing, preliminarily, at 0.6% and Q2 revised higher to 0.7%. So the economy in the Eurozone seems to be performing pretty well. In fact, it is the best performance since 2011 on that measure. At the same time, the Unemployment Rate there fell to a lower than expected 8.9%, its lowest measure since 2009. And yet, to listen to the ECB, you would think the Eurozone economy was in a depression. Falling unemployment, quickening growth and modest inflation sounds like a winning combination. But I guess not. At any rate, the market response was to sell the euro on the CPI data as that merely cemented the idea that the ECB will not be adjusting policy rates for several years to come. I have been suggesting December 2019, but if CPI remains this low, it could be longer still.
Last night we also heard from the BOJ which left policy unchanged as universally expected. Negative rates and control of the yield curve have certainly helped the economy, which has shown positive GDP growth for the past seven quarters, its longest streak in 16 years, and it has helped power the Nikkei to its highest level since 1996. But there is no happiness there either. In fact the one dissenting vote on the BOJ council wanted to control the yield curve out to 20-years, not just 10. I guess some people are never happy. At any rate, it should be no surprise that the yen is a bit softer this morning as well, down 0.15%.
In fact the only G10 currency that is higher this morning vs. the dollar is the pound, which is up just marginally, as the market prepares for the BOE to raise rates on Thursday. CPI is running at 3.0% in the UK, well above their 2.0% target, and though GDP growth remains desultory and uncertainty over the Brexit outcome is significant, Governor Carney seems set to raise rates. This will, however, be one and done. The BOE will not raise rates from the new level, expected to be 0.50%, for at least a few years.
In the end, all of this is why I continue to harp on the policy divergence story. It is truly only the Fed that is willing to acknowledge that the economy no longer needs the continuous boost of extraordinary monetary policy stimulus and will continue its rate hike path. And in the end, higher US interest rates combined with stagnant, record low interest rates elsewhere in the world will draw dollar buyers out of the woodwork. The dollar has further to run higher!
Helping to underpin the Fed’s case was yesterday’s Personal Income and Spending data, as well as yet another Fed survey (Dallas) showing manufacturing growth performing well. In fact, since the hurricane impacted payrolls data at the beginning of October, we have seen a steady run of positive, better than expected US data. I continue to expect the Fed to raise rates at least three times next year and believe that four hikes are quite viable. The Fed funds futures market continues to price in just 40bps over that time frame. The dollar has further to run. And that doesn’t even assume that tax reform is passed and with it some sort of repatriation act, which will simply supercharge the dollar’s rally. (Remember the HIA in 2005?). Hedgers beware.
As to today’s data, we see the Employment Cost Index (exp 0.7%); Case Shiller House Prides (5.93%); Chicago PMI (60.0); and Consumer Confidence (121.5). I would argue that all eyes will be on the Chicago number as a harbinger for tomorrow’s ISM data. But in the end, Friday’s payrolls report remains the big kahuna and so positioning is likely to remain light. Of course, the BOE meets Thursday, so there is always the possibility that Governor Carney fails to deliver the widely expected rate hike, something he has done before both at the BOE and previously at the Bank of Canada. I don’t expect that, but it cannot be ruled out. However, my assumption is the BOE will act according to plan and that the US data picture will be the critical feature. Oh yeah, the FOMC meets tomorrow, but there is essentially no expectation that they will do anything, a prospect with which I agree heartily.
To sum it up, all signs still point to tighter US policy alongside unchanged, ultra-easy policy elsewhere in the world. The dollar has further to run.