Fed minutes show officials unwilling to cut rates in 2023
Dollar traders lock gaze on US employment report
Eurozone inflation numbers enter the limelight as well
Dollar trades lower even as minutes confirm hawkish Fed
The US dollar traded lower against all but one of the other major currencies on Wednesday, with the exception being the yen. The currency that gained the most ground was the risk-linked aussie, which may have benefited from news that China allowed the resumption of coal imports from Australia. The greenback rebounded somewhat today.
The dollar traded on the back foot yesterday, even after the minutes from the latest FOMC gathering confirmed officials’ hawkish views by clearly revealing that although they agreed on slowing the pace of aggressive rate increases, none of them anticipated that it would be appropriate to begin cutting rates in 2023.
This encouraged some dollar buying at the time of the release but nothing game changing. The currency gave back the related gains and traded even lower soon thereafter. That's maybe because officials' resistance towards cuts this year was nothing new. The ‘dot plot’ of the meeting and Chair Powell’s remarks at the press conference already suggested that belief.
Even after the minutes put it clearly, investors continued to price in nearly two quarter-point cuts by the end of the year. Maybe they are convinced that inflation will continue to cool at a fast pace and that because the effect of the already-delivered hikes is not fully felt by the economy yet, the Fed should avoid overdoing it. Ahead of the minutes, the ISM manufacturing PMI for December slid further into the contractionary territory, adding credence to market participants’ concerns about the US economy.
Will investors reassess their Fed bets after the US jobs data?
With the Fed relying on the still-tight labor market as justification for ongoing interest rate hikes, the spotlight is now likely to turn to the US employment report for December, due out tomorrow. Expectations are for another set of decent numbers, with wages not showing any signs of a meaningful slowdown.
This could prompt investors to raise the level of where they expect interest rates to peak, and perhaps reassess their hypothesis that a smaller 25bps increment is the most appropriate choice for the upcoming Fed gathering. However, a disappointment in the ISM non-manufacturing PMI that is released after the jobs numbers could allow them to maintain bets of rate cuts later this year.
As for the market reaction, the dollar could receive support on potentially solid employment data, but any gains could come to a halt if the ISM index adds to recession fears. For Wall Street, it may be a one-way ride. Expectations of a higher terminal Fed rate combined with concerns about the performance of the US economy might result in another round of selling.
Slowing headline inflation unlikely to alter the ECB’s plans
Euro traders are also likely to have a busy day tomorrow as the Eurozone’s preliminary inflation numbers for December are due. The forecasts point to a notable slowdown in the headline metric, which is supported by the declines in both the German and French headline rates.
However, the Eurozone’s core rate is expected to have just ticked down to 6.5% y/y from 6.6%, which is far from an encouraging sign considering that this will be the first slide since January 2022. So, should underlying inflation stay at levels more than triple the ECB’s objective, policymakers may have no other choice than to keep delivering more double hikes. With that in mind, investors may decide to keep the euro supported. Even if the common currency slides at the time of the release, the losses could stay limited and short-lived.
Oil prices continued to fall sharply yesterday – though they have rebounded somewhat today – perhaps on concerns that China’s reopening and the surging infections in many districts could result in worldwide spreading and thereby more economic complications.
Heightened recession fears, a softer dollar, and the latest setback in Treasury yields appear to be a supportive cocktail for gold, which seems to be reclaiming its safe-haven status. The precious metal hit a new six-month high yesterday.