Dollar Remains Soft Ahead of FOMC Decision and US Retail Sales Data

  • The OECD updated its world economic forecasts; the dollar remains soft ahead of the FOMC decision
  • We expect the FOMC to deliver a dovish hold; the dollar tends to weaken on FOMC decision days
  • Ahead of the FOMC decision, we get August retail sales; we may be seeing some movement in potential fiscal stimulus; Judy Shelton lacks the votes right now to be confirmed
  • Canada reports August CPI; Brazil is expected to remain on hold; the rand continues to appreciate from a rare bit of positive political news
  • The UK government may roll out some additional fiscal support; UK reported August CPI; Japan reported August trade data

The OECD updated its world economic forecasts. The global slump this year won’t be as deep as it expected in June (-4.5% vs. -6.0% previously). The US (-3.8% vs. -7.3%), eurozone (-7.9% vs. -9.1%), and China (1.8% vs. -2.6%) were all revised up significantly, with China the only G-20 economy expected to grow this year. The bad new fell largely on EM, with big downward revisions to India (-10.2% vs. -3.7%), Mexico (-10.2 vs. -7.5%), and South Africa (-11.5% vs. -7.5%). The OECD warned there is still a huge amount of uncertainty regarding its forecasts.

The dollar remains soft ahead of the FOMC decision.  DXY is edging lower for the fourth straight day and is trading back below 93.00.  A clean break below the 92.50 area is needed to set up a test of the September 1 low near 91.746.  Similarly, the euro needs to break above the $1.1910 area to set up a test of its recent high near $1.2010.  We remain negative on the dollar, as Powell’s dovish message from Jackson Hole is likely to be reiterated at his post-FOMC decision press conference.

 

AMERICAS

We expect the FOMC to deliver a dovish hold today. Chair Powell will surely underscore his dovish Jackson Hole message under the Fed’s new framework. This could necessitate a slight tweak to the Fed’s forward guidance, as the meeting statement will have to somehow acknowledge this shift whilst underscoring that rates will be kept “lower for longer” than under the previous framework. We expect the new Dot Plot to extend the no rate hike view into 2023, though some dissents are possible.  With regards to the growth and inflation forecasts, we do not expect significant changes given the current uncertainty about fiscal stimulus and the headwinds coming from the still-high virus numbers.  Please see our FOMC Preview for a deeper dive into what the Fed may or may not do.

The dollar tends to weaken on FOMC decision days.  Indeed, DXY has fallen on each one dating back to October 2019.  Including emergency meetings, that’s a streak of nine.  Stocks are a different matter during that same stretch, with the S&P rising five times and falling four times.  MSCI EM has the same record (five gains, four losses), while MSCI EM FX fared slightly better (six gains and three losses).  Lastly, both US 2- and 10-year yields have never risen on those occasions.

Ahead of the FOMC decision, we get August retail sales.  Headline sales are expected to rise 1.0% m/m vs. 1.2% in July, while ex-autos are expected to rise 1.0% m/m vs. 1.9% in July.  The so-called control group used to calculate GDP is expected to rise 0.3% m/m vs. 1.4% in July.  No matter how you slice it, the US economy is losing momentum even as tens of millions remain jobless and losing enhanced benefits.  Unless another round of fiscal stimulus is seen before the election, the US numbers are likely to get worse. July business inventories (0.2% m/m expected) and TIC data will also be reported today.

We may be seeing some movement in potential fiscal stimulus. Yesterday, a 50-member group of moderates from both parties submitted a compromise package worth $1.5 trln. While the number much closer to the Senate’s initial $1 trln plan than it is to the House’s original $3.4 trln plan, it pretty much splits the difference between the two latest offers of $500 bln and $2.4 trln. The compromise basically splits the difference for the enhanced unemployment benefits (at $450 per week) as well as aid to state and local governments (at $500 bln). It would also provide another round of $1200 stimulus checks along with a $500 per child benefit. Speaker Pelosi pledged the House will stay in session until a bill is passed. It is scheduled to adjourn October 2 until after the November 3 election.

Republican Senator Thune said Judy Shelton lacks the votes right now to be confirmed for the Fed Board of Governors. Republican Senators Romney and Collins have already stated their opposition, while Senator Murkowski said she hasn’t decided yet. Only four Republicans need to oppose Shelton in order to derail her controversial nomination. Thune said “We’re still working on it” but added that they don’t want to bring it to a vote until the votes are there to confirm her. Stay tuned.

Canada reports August CPI. Headline is expected to rise 0.4% y/y vs. 0.1% in July and common core expected to rise 1.4% y/y vs. 1.3% in July.  Yesterday, July manufacturing sales (7.0% m/m vs. 9.0% expected) and August existing home sales (6.2% m/m vs. 8.0% expected) both disappointed. The Bank of Canada delivered a somewhat hawkish hold last week.  No, it wasn’t threatening to hike rates anytime soon, but instead removed language about adding more stimulus if needed.  It knows a big slug of fiscal stimulus will likely be announced next week.

Brazil COPOM is expected to remain on hold.  At  the last meeting August 5, it cut rates 25 bp to 2.0% and left the door open for further easing.  However, IPCA inflation accelerated to 2.44% y/y from 2.31% in July, the third straight month of acceleration and the highest since March.  While still below the 2.5-5.5% target range, inflation warrants caution and we believe the easing cycle is over now.

 

EUROPE/MIDDLE EAST/AFRICA

The UK government may roll out some additional fiscal support. Chancellor Sunak is under pressure to react to the recent job redundancy figures and the upcoming furlough scheme cliff that will hit the country in October. Sunak provided no details about what’s on the table, aside from saying that they will be “creative” in supporting the job market. But if the recent communication can be taken at face value, extending the furlough scheme (in its current form) is not going to happen. The cynic in us suspect that these are trials balloons and in part a way to distract from the Brexit showdown and widespread criticism towards the Johnson administration.

UK reported August CPI. Headline was expected to be flat y/y vs. 1.0% in July, but instead eked out a small gain of 0.2%. This is still the lowest inflation since 2015 and well below the 2% target. CPIH was expected to rise 0.3% y/y vs. 1.1% in July, but instead rose 0.5%.  Data aren’t that important even though coming ahead of the Bank of England meeting tomorrow as inflation simply isn’t a concern. While it is widely expected to remain on hold, we believe the bank will set the table for another round of QE before year-end. Low inflation is part of the story, but so is the rising risk of a hard Brexit as well as the end of some government support programs this fall. This argues for more monetary stimulus. We will send out a BOE preview later today.

The EU said it would fund about a third of the recovery plan by issuing green bonds. That’s about €225 bln of issuance in the sector, equivalent to all green securities sold globally last year, according to Bloomberg. Markets await the results of the ECB’s ongoing strategy review, with Madame Lagarde signaling that the bank is exploring ways that it can be effective in the fight against climate change. These are all baby steps but represent a noteworthy shift towards “greener” stances by official institutions.

The rand continues to appreciate with the latest leg coming from a rare bit of positive political news on the domestic front. The major stakeholders – including unions, government, and businesses – involved in the national energy company Eskom have reached an agreement to support the company and reduce blackouts. The agreement will involve reducing the company’s $30 bln or so debt burden and injecting more resources into it, but there wasn’t a whole lot of detail. The country’s CDS is now comfortably below the 300 bp level, between Turkey and Brazil. The rand has appreciated for the last four consecutive sessions against the dollar, up 7% from the early August sell-off and nearly 14% stronger from the worst level of the year. We still find it hard to be optimistic about South Africa, but we recognize that a lot of negative news has already been priced in.

 

ASIA

Japan reported August trade data. Exports fell -14.8% y/y vs. -16.1% expected and -19.2% in July, while imports fell -20.8% y/y vs. -17.8% expected and -22.3% in July.  Export contraction is the slowest since March, but is still disappointing given the regional pickup in activity and trade. Japan’s economy is still lagging, as recent data show. Still, the Bank of Japan is expected to remain on hold when it meets tomorrow.  It can’t be happy with the rising deflationary risks and yet there is little it can do right now. At this point, the bank is letting fiscal stimulus carry the load and so we are in a wait and see period.  Indeed, we suspect that Prime Minister Suga (formally elected today by Parliament) will look to shore up his credentials with another round of fiscal stimulus before year-end.