Equity futures are setting up for a positive open, Treasury yields are flat across the curve, and the dollar is holding steady ahead of this afternoon’s Federal Reserve decision.

Yesterday’s November inflation report showed price growth levelling off well below post-Covid highs, while also remaining above the Fed’s comfort threshold. Underlying inflation accelerated on a month-over-month basis, and the so-called “supercore” measure—core services excluding shelter costs—often mentioned by Jerome Powell, climbed at an annualized 5.2 percent. According to a separate report, real earnings climbed 0.8-percent in the year to November.

This doesn’t mean that progress in reducing inflation is reversing—the broader price trend is clearly pointing down. Today’s statement could see a sentence about “determining the extent of additional policy firming” removed, and behind the scenes, officials are clearly “thinking about thinking about” what might prompt rate cuts if price growth continues to slow.

But it does lower the odds on anything that could be interpreted as a “mission accomplished” moment from Fed officials at today’s meeting. We think Mr. Powell will try to make a convincing case for holding rates at current levels for a prolonged period, while the “dot plot” summary of economic projections should show three rate cuts expected over the next year – not the four currently discounted in financial markets.

Risk appetite remains constrained across the commodity bloc after China’s annual economic work conference ended without any evidence of large-scale demand-side stimulus. According to an official statement, the government plans to provide limited subsidies to households buying durable goods, and a “new round of tax reform” is mentioned, but the primary focus remains on pursuing homegrown “technological innovation” in the country’s industrial sector, and further reducing the country’s dependence on the West.

The pound and euro both remain firmly rangebound as traders avoid taking directional positions in front of tomorrow’s central bank meetings. Like the Fed, officials at both the Bank of England and the European Central Bank are probably convinced the inflationary dragon has been slain, but are also wary of markets using a defibrillator on it. More rhetorical posturing against a premature easing in financial conditions seems likely, perhaps helping solidify support in the pound around the low 1.25’s, and the euro at 1.07.

The Canadian dollar remains unloved on foreign exchange markets. After repeatedly trying and failing to break through the 1.3550 mark against the dollar in the last week, a clear bearish bias has emerged, with entrenched economic pessimism adding to negative short-term yield spreads and falling crude prices in creating the conditions needed for a move lower. Relief won’t likely come until investors capitulate to the idea of a “hard landing” in the US economy.

And the Argentinian peso is down more than 50 percent after Javier Milei’s new government implemented a series of “tough love” policies designed to put the economy on a more sustainable footing. Authorities lowered the official exchange rate to 800 per dollar from 366.5 previously (it was already trading below 1000 on the “blue” market), halved the number of government ministries, cut fuel subsidies, and reduced transfers to provinces in a reform package that could eliminate the primary deficit next year. Having been in-country for two of the many previous currency devaluations, we’re skeptical this one will stick, but Milei has assembled a team of relatively experienced financial experts, and some form of shock therapy has long been needed.

 
Still Ahead

WEDNESDAY

The Federal Open Market Committee will almost certainly leave rates unchanged for a third consecutive meeting, but the accompanying economic projections could shift considerably, impacting financial market assumptions. Turbulence could be unleashed across a number of asset classes if the “dot plot” fails to reveal a dramatic 75-basis-point drop in the median forecast for end-2024 policy rates – or, if the number of expected rate cuts exceeds what is currently priced in. We’re not sure whether Governor Waller’s perspective—that the Fed should begin providing accommodation once inflation has fallen for a three- or four-month period, even if the underlying economy remains strong—is widely shared across the committee, and suspect some policymakers are still clinging to the “higher for longer” message that seemed so fashionable a few months ago. Either way, the potential exists for considerable volatility. (14:00 EDT)

THURSDAY

With key inflation metrics remaining far from target, the Bank of England is likely to maintain a rhetorically-hawkish bias at its December meeting, retaining the option to raise rates again if price growth fails to continue its descent. Policymakers could choose to buck global trends in decisively pushing back against the easing in financial conditions that has occurred since October, but in the UK, as elsewhere, markets are unlikely to take this seriously. Global investors believe inflation is on the wane, with interest rates expected to follow suit, and there’s simply not a lot policymakers can do to convince them otherwise. (07:00 EDT)

Virtually no one thinks the European Central Bank will raise borrowing costs again in this tightening cycle, yet there’s significant disagreement around how quickly and aggressively policymakers will begin cutting interest rates next year. Inflation is subsiding quickly and recent commentary from Governing Council members—most influentially, Isabel Schnabel—has turned remarkably dovish, convincing markets to assume at least five rate cuts through the course of 2024. We think price growth could make a modest comeback in the early new year as government energy caps expire, and suspect investors expect too much flexibility from a notoriously slow-moving institution. (08:00 EDT)

Control-group retail sales – critical in assessing the strength of US consumer demand – are seen eking out a small gain in November, rising just 0.1 percent month-over-month on a comparatively anemic increase in holiday outlays. But American households remain the most powerful force in the global economy, and we don’t rule out another month of growth-defying spending. (08:30 EDT)

The Banxico should follow through on its forward guidance, holding its benchmark rate at 11.25 percent for a sixth consecutive meeting. Although the economy is showing signs of vulnerability as the US begins to slow, the first rate cuts are expected to begin late in the first quarter, and are seen coming incrementally so that interest differentials with the Federal Reserve remain strongly positive – meaning that carry traders should remain confident in high returns for now. (14:00 EDT)