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US exceptionalism trade lifts dollar, supports rate expectations across the curve

Risk appetite remains relatively strong after a series of data releases – including today’s spending and inflation numbers – helped bolster bets on a “soft landing” in the US economy that could convince the Federal Reserve to keep interest rates at prevailing levels for an extended period. The major North American equity indices are inching higher, Treasury yields are climbing off three-week lows, and commodity prices are enjoying a brief period of respite, even as the dollar – symbol of American economic outperformance – pushes higher against its major counterparts.

North America

American consumers spent more than expected last month, defying the Federal Reserve’s efforts to fight inflation.
Household outlays rose 0.8 percent in July, up from 0.5 percent in June as strong personal income growth – up 0.2 percent month-over-month, drawdowns on excess savings, and withdrawals from credit facilities helped support movie and concert ticket purchases, retail sales, and back-to-school shopping. On an inflation-adjusted basis, real disposable income fell 0.2 percent even as spending jumped 0.6 percent, marking the fastest increase this year – and one that will likely prove unsustainable in the coming months.

The central bank’s target inflation measure – the core personal consumption expenditures index – increased 0.2 percent from a month earlier and 4.2 percent from a year earlier. Jerome Powell’s favourite metric – the so-called “supercore” or non-housing core services aggregate – climbed 0.5 percent, but this was mostly driven by a rise in investment management costs that are unlikely to indicate growing underlying price pressures.

Data out earlier in the week showed the number of US job openings falling to their lowest levels since March 2021, suggesting that labour market conditions are beginning to ease. Revised data published yesterday showed the US economy expanding at a 2.1-percent annualised rate in the second quarter, down from the 2.4 percent initially estimated as business investment was recalculated lower and consumer spending was adjusted higher. Gross domestic income climbed 0.5 percent after contracting for two consecutive quarters, lifting an average of the two measures – often used by economists to assess underlying trend growth rates – to 1.3 percent. And tomorrow’s payrolls report is expected to show 170,000 jobs were added in August, the fewest since December 2020. The US needs to add roughly 100,000 jobs a month to keep up with growth in the working age population.

The Canadian dollar is treading water ahead of tomorrow’s gross domestic product print, which is expected to show growth decelerating over the last quarter, suggesting that the Bank of Canada’s rate hikes are having the desired effect. Output is seen shrinking -0.2 percent in June – aligning with Statistics Canada’s advance estimate – bringing second-quarter growth down to an annualised 1.2 percent, below the central bank’s 1.5 forecast. Evidence of growing weakness in consumer demand, particularly if suggested in a negative July headline estimate, could demolish already-low odds on a hike at next week’s meeting and put pressure on rate expectations across the front end of the curve.

Although Canada’s households – which are among the most-indebted in the world – are likely to slow spending at some point, we’re not confident the “Wile E. Coyote” moment has yet arrived. Anecdotal evidence would suggest that consumption remained relatively robust in July and August, albeit powered by further drawdowns in savings and credit. Even if it shouldn’t, the Canadian dollar could have some life in it yet.


The euro is coming under renewed selling pressure after core inflation slowed in line with expectations, potentially giving the European Central Bank room to stay on hold in September.
Data released by Eurostat this morning showed the ex-food and energy price index rising 5.3 percent in the year to August while the services measure fell to 5.5 percent from July’s 5.6 percent – numbers which are hardly sufficient to confirm a sustained downward trend, but which are moving in the right direction.

Isabel Schnabel, considered one of the more influential members of the central bank’s Executive Board, said incoming data pointed to “growth prospects being weaker than foreseen in the baseline scenario of the June Eurosystem staff projections”. Odds on a rate hike at the next meeting are now floating around the 30-percent mark, down from coin-toss levels a few weeks ago. The euro is struggling to avoid crashing through the 1.08 threshold against the dollar.

Speaking in Cape Town, South Africa, the Bank of England’s Chief Economist said he favoured a “Table Mountain” profile for British rates. The famously flat-topped mountain – which appears to have a tablecloth when clouds are rolling off it – provided an apt analogy for a tightening trajectory that sees rates climb to a plateau and then hold there for a prolonged period of time, as opposed to a Matterhorn-shaped one in which they climb too rapidly, inflicting economic damage that must then be reversed via a series of sharp cuts. The pound slipped as traders bet on a dovish hike at the central bank’s September meeting – a quarter point move paired with a relatively cautious outlook – that might put the conditions in place for a peak in the Bank Rate around 5.75 percent by late autumn.

Asia Pacific

As had been expected, China’s official manufacturing purchasing manager index pointed to a fifth consecutive month of contraction in August, but a modest improvement in new orders suggested that domestic demand could be stabilizing.
The National Bureau of Statistics’ measure rose to 49.7 in August, up from 49.3 in July, showing that factory activity is still slowing, but slowing at a more gradual pace. New export orders inched higher to 46.7 while a broader measure that includes domestic orders rose to 50.2, indicating a rebound in purchases within China itself.

Markets remain convinced more policy support is in the offing. The People’s Bank of China looks likely to cut its medium-term lending rate again in the next month or so. Local governments – under Beijing’s guidance – are expected to amp up fiscal spending, launching a renewed infrastructure push.

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