Currency markets are losing momentum as investors brace for this morning’s September consumer price index numbers out of the United States. The dollar is holding steady after racking up an eight-day winning streak, and most of its rivals remain stuck within well-contained trading ranges as questions around the Federal Reserve’s easing trajectory continue to dominate price action. With the European Central Bank now expected to slightly outpace its US equivalent in cutting rates this year, the euro is plumbing lows last seen in mid-August, and the British pound is climbing in the opposite direction on bets that the Bank of England will lag both of its counterparts. The Japanese yen is continuing its slow descent toward the 150 threshold as cross-Pacific rate differentials widen once more.
Market reaction to this morning’s US inflation numbers could be somewhat asymmetric. Evidence of a continued easing is unlikely to mollify investors who are bracing for a reacceleration in price pressures over the coming months. But an upside shock could exacerbate the selloff in bond markets, driving interest rates higher and supporting the dollar.
Minutes taken during the Fed’s September meeting showed officials were divided on the scale of their first cut, even as most supported the half-percentage-point move that was ultimately approved. “Noting that inflation was still somewhat elevated while economic growth remained solid and unemployment remained low, some participants observed that they would have preferred” a smaller cut, but a “substantial majority” thought a bigger reduction was necessary and “generally observed that such a recalibration of the stance of monetary policy would begin to bring it into better alignment with recent indicators of inflation and the labour market”.
Policymakers now look unlikely to deliver another outsized move this year. Hiring accelerated in September, unemployment declined, and a raft of other data releases pointed to continued strength in consumer spending and business investment, reducing the likelihood that a rapid economic deceleration is already underway. Dallas Fed president Lorie Logan yesterday said “Following last month’s half-percentage-point cut in the Fed funds rate, a more gradual path back to a normal policy stance will likely be appropriate from here to best balance the risks to our dual-mandate goals”. Odds on aggressive rate cuts have plunged even with the policy rate remaining well above the pace of inflation, with just 43 basis points in easing now priced into futures markets before the end of the year – equivalent to less than two quarter-percentage-point moves between the November and December meetings.
Jobs and survey data released tomorrow morning could play a pivotal role in determining market positioning ahead of the Bank of Canada’s late-October meeting.
Expectations are low. With the economy seen failing to outpace immigration flows with roughly 27,000 jobs added in September, the unemployment rate could grind higher to 6.7 percent, up from 6.6 previously, and hourly wage growth might slow to 4.7 percent on a year-over-year basis from 4.9 percent in the prior month. The Bank of Canada’s latest round of business and consumer surveys are likely to show inflation expectations remaining well-contained, and could bear the scars of a long downturn in overall confidence levels.
But there are significant unknowns. Seasonal adjustment effects and recent changes to the government’s student visa and temporary foreign worker policies could play havoc with key metrics in the jobs report, and we think markets should also remain alert to consumer sentiment changes in the survey data. Our evidence is largely anecdotal so far – and the country’s debt overhang remains incredibly worrisome – but slowing inflation and falling interest rates seem to be translating into an improvement in household views on Canada’s all-important real estate market, limiting the likelihood of an imminent downturn and reducing the need for an acceleration in the pace of rate cuts. Economists generally seem to agree – probabilities derived from consensus forecasts suggest less than one-in-three odds of a recession in Canada over the next 12 months, exactly in line with the United States.
*Apropos of a couple of questions from kind readers, a point of clarification on yesterday’s chart comparing global debt-to-gross domestic product ratios with per capita output numbers: the debt calculation used was for private non-financial sector debt, which includes the household and non-financial corporate sectors but does not include governments. For a more inclusive perspective, here is how debt ratios stack up across the major economies – and note that you can find data on our dashboard here whenever you want the updated numbers.
