Today the data includes May durables and factory orders, but the biggie will be the Fed minutes. The WSJ reports that “Federal Reserve officials have suggested there is a strong chance they will announce a decision in September to start shrinking the bank’s portfolio of bonds and other assets, while putting off interest rate rises until December. Investors will be looking for any confirmation of that or hints at whether softer inflation readings have affected officials’ views on monetary policy when minutes of the Fed’s June meeting are released later Wednesday.”
We’d like to know how the WSJ arrived at this deduction. Which officials? Take it with a grain of salt. We remain interested in the growth forecasts and the peculiar divergences between two of the big Fed numbers. The New York Fed Nowcast has 1.9% for Q2 GDP as of Friday. See the top chart. But the Atlanta Fed GDPNow model gets 3.0% as of July 3, up from 2.7% on June 30. See the second chart. We get another Atlanta Fed forecast tomorrow.
A reliable forecast of growth would go a long way to judging whether the Fed will postpone th e September hike until December. To be fair, the Fed never promised September. And the top factor is not growth, but rather inflation. Still, you don’t get inflation, still mostly a fiction, without growth.
In contrast, Europe seems to be getting both growth and inflation. Granted, the scale is a lot smaller. Markit comes up with Q2 growth at 0.7% q/q. See the chart. We’d rather have an annualized version to compare to the US, but the overall year is supposed to deliver 1.9%. Hmm, 1.9% is what the New York Fed has for the US. And the Us is facing the same skilled labor shortage as Europe. So why do we have unbridled optimism about the European recovery while in the US, there is still a one-in-three chance of recession? The asymmetry is stunning.
The FT tries to cement the tapering story with an article on the global shift in policy away from easing. It names the Swedish Riksbank as the latest central bank to join to taper club with its statement that higher inflation expectations and an easing in external risks made further rate cuts “less likely than before.” To interpret that statement as implying tapering is quite a stretch. The FT lists the banks in order of the likelihood of actually tapering, starting with the Fed, of course, but next in line the BoC, BoE and ECB. The RBA is not on the list.
We get several ECB speakers this week and the minutes of the June meeting tomorrow. The speakers include chief economist Praet, ECB board member Mersch, and the always noisy Austrian central bank chief Nowotny. Nowotny probably favors tapering but even if he yells it from the rooftop, that doesn’t mean Draghi is on board. It’s not only traders who jump the gun. Journalists do it, too.
Bottom line, the dollar recover is almost certainly a normal correction and not a harbinger of something bigger and not a trend change. We believe it’s a classic correction “cycle” after the euro and other currencies became overbought and the dollar oversold. The recovery has little or nothing to do with yield differentials, impending war or comparative central bank analysis. It’s just the way the market works— three steps forward, one step back.
It’s critical to see this correction as just that—positioning by big players. See the monthly chart. This secondary move can all too easily vanish inside the bigger picture of a rising euro trend. As we wrote Monday, the euro can recover from whatever the new temporary low turns out to be and resume the upward trend to new highs such as 1.1752, the 38% retracement. To get there, the euro has to surpass the last spike high at 1.1616 from May 2016 and before that, the August 2015 high at 1.1714. It goes without saying that the price wobbles badly near those “historic” highs.
The single thing that can derail this interpretation is war. We know Trump lacks self-control and fear an impulsive macho response to N. Korea. But we also knew he is a bully and bullies are cowards at heart. Trump has turned over military policy to the military and the most anti-war people on the planet are the military. They know what it means. Then there’s intervention by China and Russia, who may join up to manage N. Korea. Right now, war is unlikely. But you can’t count on it. In recent years the dollar has gone up on the US showing off military might, most notably in the first and second Gulf wars. Should we expect the same thing in an Asian war? Nobody knows.
By Barbara Rockefeller
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