Dollar Soft Ahead of UK Brexit Vote

  • The dollar remains under pressure from weak data and budget uncertainty
  • Next up are the inflation readings
  • May made a last-ditch attempt at a deal; UK parliament votes on her latest Brexit plan
  • Sweden reported lower than expected February CPI
  • The Philippine central bank’s new Governor Diokno affirmed his dovish leanings
  • India reports February CPI and January IP; Brazil reports February IPCA inflation

The dollar is mostly weaker against the majors ahead of the UK Brexit vote.  Nokkie and Kiwi are outperforming, while yen and Loonie are underperforming.  EM currencies are mostly firmer.  ZAR and KRW are outperforming, while PHP and TWD are underperforming.  MSCI Asia Pacific was up 1.1%, with the Nikkei rising 1.8%.  MSCI EM is up 0.9% so far today, with the Shanghai Composite rising 1.1%.  Euro Stoxx 600 is up 0.2% near midday, while US futures are pointing to a higher open.  10-year UST yields are up 2 bp at 2.66%.  Commodity prices are mostly higher, with Brent oil up 1.1%, copper up 1.4%, and gold up 0.3%.

The dollar remains under pressure.  Last week was a good one for the greenback but weak data and dovish Fed comments are giving the market an excuse to take profits.  We remain bullish on the dollar, but this current consolidation could run on a bit longer.  DXY is down for the third straight day.

US retail sales data didn’t help matters.  We did get a strong bounce-back in January from the weak December readings.  Surprisingly, those December readings were revised downward, not upward.  As a result, the US growth outlook has weakened further.  The Atlanta Fed’s GDPNow model is tracking 0.2% SAAR growth for Q1 vs. 0.5% previously.

The budget submitted by President Trump isn’t helping matters either.  Despite overly rosy growth forecasts near 3% over the next decade, the budget deficit is still projected to remain near -$1 trln per year through 2022.  And that’s with proposed massive cuts to social spending.  The fiscal outlook has always been the dollar’s Achilles Heel, but we did not expect this to bite until the next US recession, when the budget numbers would really blow out.

Democrats have already said the budget is dead in the water.  Even some Republicans have expressed concerns.  While the budget proposal should be seen as an opening salvo, partisan rancor from the shutdown remains high and compromise will be difficult.  With the debt ceiling back in play, there is a risk of yet another shutdown in September, when Treasury funding runs out.  If this were to happen, it could lead to another sovereign downgrade to the US.

Next up are the inflation readings.  CPI is due out today.  Headline and core CPI are both seen steady at 1.6% y/y and 2.2% y/y, respectively.  Tomorrow is PPI, with headline seen dropping a tick to 1.9% y/y while core PPI is seen steady at 2.6% y/y.   Given the upside surprise to average hourly earnings, we expect to start seeing some upside surprises to US inflation as well.

The Fed’s Brainard speaks today.  After that, there are no more Fed speakers as the media embargo goes into effect ahead of the March 20 FOMC meeting.  We find recent dollar gains all the more remarkable given the recent dovish Fed messaging.  At this point, the market sees zero chance of a Fed hike this year and rising odds of a cut next year.

May made a last-ditch attempt at a deal by traveling last night to Strasbourg to meet with EC President Juncker.  The two later announced changes to the deal that they hoped would pass muster.  On the contentious Irish backstop, the wording was changed to a vague pledge to make the backstop temporary.  The deal does not give the UK the explicit ability to withdraw unilaterally end the backstop but does seem to give both sides some wiggle room to do so under the dispute settlement procedures.

The UK parliament is scheduled to vote on May’s Brexit plan.  Before this latest deal, most observers had expected another large-scale loss for May and it remains to be seen if these changes moved the needle in parliament.  Attorney General Cox will give his legal view on the changes before the full vote.  If this latest plan does not pass, parliament will take control of the process and will vote for either a hard Brexit or another delay beyond March 29.

UK reported a huge slate of data earlier today.  January trade, IP, GDP, and construction output will be reported that day.  IP rose 0.6% m/m vs. 0.2% expected, while GDP rose 0.5% m/m vs. 0.2% expected and construction output rose 2.8% m/m vs. 0.8% expected.  Lastly, the trade deficit was -GBP3.8 bln vs. -GBP3.5 bln expected.  Overall, the economic outlook remains cloudy due to Brexit and so the Bank of England is on hold for now.  Next policy meeting is March 21, no change is expected then.

Sweden reported lower than expected February CPI.  Both headline CPI and underlying CPIF rose 1.9% y/y.  Both had been expected to rise 2.0% y/y.  The Riksbank started a modest easing cycle (25 bp so far).  At its February 13 meeting, it reaffirmed its intent to hike again in H2 of this year but cited rising uncertainties.  Riksbank next meets April 25, no change is expected then.

The Philippine central bank’s new Governor Diokno affirmed his dovish leanings.  He said slowing inflation and a dovish Fed will allow the bank to cut rates and reserve requirements this year.  Diokno seemed unconcerned with peso weakness, noting it remains within the government’s forecasted range.

India reports February CPI and January IP.  CPI is expected to rise 2.4% y/y while IP is expected to rise 2.0% y/y.  Price pressures remain low, which should allow the RBI to continue cutting rates ahead of the elections.  Next policy meeting is April 4, and another 25 bp then seems likely.

Brazil reports February IPCA inflation, which is expected to rise 3.84% y/y vs. 3.78% in January.  Low inflation and a sluggish economy have pushed out tightening expectations into 2020.  Next COPOM meeting is March 20, no change is expected then.