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Markets Retreat as Fed Minutes and Spending Data Loom

The dollar steamroller ground to a halt over the long weekend, but appears to be getting a small push from worsening risk sentiment as markets reopen this morning. Treasury yields are pushing higher, equity futures are down, oil prices are slumping, and risk-sensitive currencies are back on the defensive in foreign exchange markets.

A surge in optimism among British businesses is lifting the pound. An update published this morning showed the S&P’s composite purchasing manager index climbing to 53 in early February from 48.3 in the prior month, firmly above the 50 threshold that separates expansion from contraction, and sufficient to allay fears of an early-year recession. Gilt yields are higher as traders eye stubbornly-elevated wage and price pressures, and bet on a more aggressive rate posture from the Bank of England.

The Canadian dollar is toddling around in a narrow trading range ahead of this morning’s January inflation print. Statistics Canada is expected to report a softening in headline prices, with its consumer price index rising 6.1 percent year-over-year, down from 6.3 percent in the prior month even as energy costs climbed. Core prices are seen subsiding somewhat, rising at a more sedate 5.1-percent pace. We are, of course, more cautious given the surprisingly-firm numbers coming from the labour market—and from the US economy—over the same period. An upside surprise is distinctly possible.

Traders will also pay attention to December’s retail sales report, which should show receipts rising 0.5 percent—in line with an earlier projection—as auto purchases helped offset a decline in gas prices. An advance estimate for January is likely to mirror developments in the US, with consumers continuing to spend even as they tell pollsters about how depressed they are.

Today’s US data calendar is relatively light. The S&P US manufacturing index is expected to push higher to 47.6 in February from 46.9 in January, but could remain relatively depressed as factories brace for a slowdown in durable goods spending. Existing home sales are seen rebounding slightly to an annualized 4.07 million in January after tumbling to 4.02 million in the prior month. The US housing sector has exhibited surprising resilience even as rates have tightened, and a warmer winter has also helped support activity levels.

Tomorrow’s Federal Reserve minutes could generate market turbulence by revealing whether policymakers might consider resuming jumbo-sized rate hikes at their March meeting. Evidence has accumulated to suggest that the economy is running far hotter than central bankers expected when they last prepared forecasts in December – job creation, inflation, industrial production, and retail spending numbers have all come in above consensus forecasts, and several non-voting members have said rates should continue to climb in half-percentage-point increments.

But we think this is unlikely. Given that the meeting was held before the latest non-farm payrolls and inflation reports, and that the people appointed to the Federal Open Market Committee are not the flighty, intemperate sort who populate financial markets, we suspect the minutes will show policymakers building the case for a more cautious pace of rate increase – and preparing the ground for an eventual pause.

Friday’s January personal consumption numbers might prove far more interesting, showing that rising incomes and still-robust consumer demand are feeding through into rising prices. Both headline and core measures are likely to show acceleration, with the personal consumption expenditures deflator jumping 0.5 percent month-over-month after a 0.1 percent increase in December, while core prices might climb 0.4 percent from the 0.3 percent pace set in the prior month. Markets expect incomes to leap 1.1 percent on strong wage growth and social security increases, but spending could grow even faster as savings balances are drawn down and consumer credit balances rise.

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