As global markets hold their breath, all eyes are on the Federal Reserve's next move. With whispers of rate cuts in the air, the financial world is abuzz with speculation. Meanwhile, gold glitters above $2,500, defying gravity as Treasury yields take a nosedive. Down under, Australia grapples with inflation's stubborn grip, while Japan's central bank hints at another rate hike on the horizon. In this high-stakes game of economic chess, who will make the next move, and how will it reshape the global financial landscape?
Key Takeaways:
Markets anticipate potential rate cuts in September or November.
Fed is shifting focus from inflation to labor market risks.
Inflation expectations among U.S. consumers have declined.
Gold prices remain above $2,500 per ounce.
Monthly CPI declined to 3.5%, slightly above expectations.
Trimmed mean CPI decreased to 3.8%, indicating easing price pressures.
Expectations of BoJ rate hikes are limiting yen strength against the USD.
Market Awaits Fed’s Next Move Amid Labor Market and Inflation Concerns
Despite Federal Reserve (Fed) Chair Jerome Powell signaling at the Jackson Hole symposium that a rate cut cycle might likely begin in September, market participants remain uncertain about the extent of these potential cuts.
The Fed has three policy meetings left this year. According to the FedWatch tool, markets are pricing in a 50-basis point cut either at the September or November meeting, with a total of approximately 100 basis points of cuts expected by the end of the year.
San Francisco Fed President Mary Daly confirmed that Fed policymakers are shifting their focus from inflation to labor market risks, stating earlier this week that they will aim to prevent tight monetary policy from harming the labor market. Daly emphasized that various labor market indicators should be closely monitored, and if signs of genuine weakness appear, a more aggressive approach would be appropriate. This indicates that Fed policymakers are not ruling out the possibility of a 50-basis point cut, depending on labor market data released before the meeting.
Additionally, while the August Consumer Confidence Survey released yesterday showed a slight improvement in consumer confidence, it remains weighed down by the deterioration in the labor market over the past two months. Concerns among American consumers about the labor market are growing. The percentage of consumers who believe jobs are "plentiful" dropped to approximately 32.8%, marking the lowest share since March 2021 and reflecting the sixth consecutive monthly decline.
Additionally, the percentage of those who find jobs "hard to get" slightly increased to 16.4%. The gap between these two measures, closely monitored by economists as a labor market indicator, has fallen to its lowest level in over three years.
On the other hand, the survey revealed that inflation expectations among U.S. consumers have declined. The average 12-month inflation expectation decreased to 4.9%, the lowest level since March 2020. Besides, the share of consumers expecting lower interest rates over the next 12 months has risen to 31.5%, the highest level since April 2020.
Later this week, both the weekly labor market data and the Fed’s preferred inflation measure, the Personal Consumption Expenditures (PCE) price index, are expected from the U.S. The inflation figures are anticipated to support the Fed's intention to lower interest rates.
As bets on the extent of Fed rate cuts continue, economists point out that the U.S. dollar is oversold, highlighting the possibility of a moderate recovery in the short term. Although this week's inflation report could serve as a tailwind for potential market volatility, sharp pricing in either direction is not expected before the employment report, which will be released on the first Friday of September.
Furthermore, payroll growth in August is estimated to have increased compared to the previous month, with a slight easing in the unemployment rate. If these estimates prove accurate, it could make it more challenging for Fed policymakers to justify a significant 50-basis point rate cut. This scenario could ease some of the pressure on the U.S. dollar.
Gold Holds Ground Above $2,500
U.S. 2-year Treasury yields have fallen to 3.85%, marking their lowest level this month, while the benchmark 10-year yields stand at 3.82%. As U.S. Treasury yields continue to decline, the non-yielding precious metal GOLD has pulled back for the second time this week, failing to break through resistance near its all-time high; however, it remains above $2,500 per ounce.
For precious metals, expectations of rate cuts, along with the uncertainty caused by the U.S. elections and geopolitical risks, continue to serve as tailwinds.
Australia's Inflation Eases, But RBA Rate Cut Uncertainty Lingers
Australia’s monthly Consumer Price Index (CPI) data was released earlier today. Market expectations were for the data to decline to 3.4% from the previous 3.8% increase, but the actual figure slightly exceeded forecasts, coming in at 3.5%. The largest contributors to monthly inflation were housing at 4.0%, food and non-alcoholic beverages at 3.8%, alcohol and tobacco at 7.2%, and transport at 3.4%.
Additionally, the trimmed mean CPI, which reduces the impact of irregular or temporary price changes on inflation, decreased from a 4.1% increase in June to a 3.8% increase in July. The decline of trimmed inflation below 4% particularly indicates that price pressures in Australia started to ease in the third quarter. However, economists caution that this data might not be enough to prompt the early rate cuts that markets have been expecting.
Following the data release, confidence in the Reserve Bank of Australia's (RBA) hawkish stance strengthened slightly. According to money market data, the expectations of a rate cut at the September meeting, which were priced at a 30% probability before the data, have now dropped to 20%.
Treasurer Jim Chalmers commented on the data, stating that while inflation remains sticky, it has started to decline. Chalmers also mentioned that cost-of-living policies are helping. Both national and state governments in Australia are providing cost-of-living subsidies to households. As Chalmers pointed out, energy subsidies played a significant role in the cooling observed in July.
On the other hand, total demand in Australia still exceeds the economy’s supply capacity. While the decline in inflation is welcomed, this data alone may not be enough to convince the RBA to start easing interest rates. However, markets are still pricing in a rate cut by December, driven by a slowdown in economic growth and a rise in unemployment. After the data release, the yield on Australia’s 3-year government bonds, which are highly sensitive to policy changes, rose to around 3.55%.
Meanwhile, the Australian dollar’s rise against the U.S. dollar may be limited by ongoing expectations of rate cuts.
Himino’s Remarks Bolster Expectations for Another BoJ Rate Increase
Bank of Japan (BoJ) Governor Kazuo Ueda maintained his hawkish stance during his speech in parliament last week, attributing the recent market turbulence to concerns over the U.S. economy.
Despite growing criticism of the BoJ's communication, the central bank seems determined not to alter its stance. Deputy Governor Ryozo Himino confirmed this yesterday, stating that the BoJ would raise interest rates as long as inflation remains in line with the bank’s outlook. Himino’s remarks could strengthen expectations that the BoJ might consider another rate hike this year. Many economists predict that if there is no recession in the U.S., the BoJ will implement one more rate increase before the year ends.
Expectations of a rate hike from the BoJ are preventing the Japanese yen from gaining further strength against the USD, despite signals that the Fed may begin a rate-cutting cycle next month. However, as expectations around the extent of the Fed’s rate cuts evolve, volatility in the yen is likely to continue.
On the other hand, the Tokyo inflation data, set to be released on Friday, is expected to show no change compared to the previous month. The consensus forecast for core inflation in August is a 2.2% increase. Similarly, the unemployment rate for July is expected to remain steady at 2.5%. Additionally, economists surveyed by Bloomberg predict that the Retail Sales data, also due on Friday, will show a 2.8% year-on-year increase in July, down from 3.8% in the previous month. If the data aligns with these forecasts, it could indicate ongoing challenges in consumer spending in Japan.
The weakening yen, high inflation, and stagnant wage growth have put pressure on Japanese households’ purchasing power, leading to a decline in domestic demand. If the recovery in domestic demand remains limited, the BoJ may need to consider the possibility that further rate hikes could put additional pressure on household spending.
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