Next week, there are three big events: the US jobs report, the Reserve Bank of Australia meeting, and the Bank of England's meeting. That said, the final PMI readings may be more helpful this time than we often see because of how quickly it appears activity has stalled. After we review the likely highlights and share a few other observations, we will look at the technical condition of the major dollar pairs.
On August 3 in Sydney, the Reserve Bank of Australia will likely deliver its third consecutive 50 bp hike. The market has abandoned any thought of a 75 bp move and finished last week with a nearly 75% chance of a 50 bp hike. It had been almost entirely discounted at the end of the previous week. A 50 bp hike will lift the cash target rate to 1.85%. The cycle began in May with a 25 bp hike. However, by the end of Q3 (which includes the September 6 RBA meeting), the cash target rate is about 2.25%. Yet a significant adjustment has taken place in terms of the year=end expectation. The implied rate has fallen to 3% from 3.50% less than two weeks ago. The labor market is strong, and inflation is still accelerating. However, survey data warns that economic activity is slowing. The pullback in commodity prices may impact the terms of trade with a lag. Speculators in the futures market have maintained a net position of over 40k contracts even though the Aussie rallied three cents (almost 4.5%) from the two-year low near $0.6680 on July 14.
The Bank of England meets the following day. Rising inflation, a strong labor market, and hawkish official comments have encouraged the market to expect more "forceful" action by the BOE. It has hiked the bank rate four times this year in quarter-point increments. The swaps market discounts about a 50% chance of a 50 bp move, which would bring the target to 1.75%. The market has wavered after being nearly fully convinced earlier. After this week's meeting, the Monetary Policy Committee will formally meet three more times, and the swaps market expects 100 bp more in rate hikes will be delivered. There will be a new Prime Minister when it meets in September. One candidate has raised taxes and vigorously defends his record (though now allows for a cut in the VAT). The other wants to reduce taxes and has talked about reviewing the BOE's mandate. The IMF's new forecasts see the UK likely posting the slowest growth among the G7 next year at 0.5%. If Truss wins and delivers, the tax cuts could double that forecast. The last leg lower in sterling from late May through the mid-July low, almost a 10-cent move, took place even as speculators in the futures reduced the net short position from around 80k contracts by a quarter.
The US July employment report will be released on August 5. The US labor market is losing momentum. That is evident in the gradual rise of weekly jobless claims. The four-week moving average has risen above 240k from 170.5k at the end of March. The anecdotal press coverage tends to focus on job losses rather than hiring, but the reports seemed widespread. Remember that the nonfarm payroll number is the residual of all secured and lost jobs. Given the size of the workforce, several million are gaining and losing jobs a month. Despite the press, economists expect that US businesses increased their employment by 250k. If accurate, it would be the weakest job growth since December 2020, when the US lost jobs (115k). Nonfarm payrolls rose by an average of 375k in Q2 after a 539k average in Q1 and 562k for all last year. Still, it is partly about the context. It is only because of the pandemic-and-response that the 250k will be seen as weak. In none of the four years before Covid was the monthly average of nonfarm payrolls more than 200k.
Much of the recent string of economic data has been reported below expectations. This suggests the economy is weakening faster than economists in general projected. That warns of downside potential downside risks. A number much below 200k would draw attention, but before the next FOMC meeting, the August employment report will be made available. As Fed Chair Powell has explained, the headline PCE deflator is targeted for inflation, but full employment has several dimensions, and one number doesn't capture them all.
The Fed, for example, appears ready to see the unemployment rate rise a little, though it would prefer if the participation rate increased, arguably one of the things outside of its control. The rise in average earnings is moderating slowly. It rose by an average of 0.5% a month in Q4 21, 0.4% in Q1 22, and 0.3% in Q2 22. The year-over-year pace eased each month in Q2 after peaking at 5.6% in March and stood at 5.1% in June. It was 4.9% at the end of last year. Hourly earnings growth of 3.4% in 2018 and 2.9% in 2019 were consistent with subdued inflation.
There are two other data points that we suggest are often not fully appreciated. The first is auto sales. They trickle in over the course of the day (August 2) and are often hard to interpret on a headline basis. Nevertheless, they often say something about US consumers and industry. Through June, auto sales have fallen about 18.5% year-over-year. Disrupted supply, sticker shock (new car prices are up 12.5% year-over-year in the CPI measure), and higher price fuel may have all contributed. The auto sector is still one of the most important US industries, accounting for around 3.0-3.5% of GDP.
The other data point that we think may deserve more attention now than perhaps previously is the consumer credit report. In particular, we are interested in revolving credit, the use of credit cards. Our working hypothesis has been that with wages not keeping pace with the rising cost of living, Americans have boosted their borrowing from the past (savings and taking equity out in mortgage refinancing) and the future (revolving credit). Consider that in the first five months of this year, Americans took on more credit card debt than they did all last year ($69.8 bln vs. $67.1 bln). To put this in perspective, consider that credit card debt rose by almost $75.5 bln in 2018 and 2019 combined. After a three-monthly splurge (February-April) when revolving credit increased by $18 bln on average, it slowed abruptly to $7.4 bln in May. Is the consumer tapped?
Part of the dollar's resilience may reflect the judgment that when everything is said and done, we still live in a world highly sensitive to US developments. The US is sneezing, and others have caught cold. As much as US rates have fallen, they have fallen more elsewhere, in the eurozone, Sweden, and the dollar bloc. At the two-year, the US yield fell 13 bp last week. Germany matched the US decline, but Canada's yield is off 15 bp, Italy's off 30 bp and Spain two-year yield fell more than 21 bp. Australia and New Zealand yields fell around 25 bp. The US 10-year yield lost eased by 16bp. Canada's benchmark dropped 25 bp. German and French 10-year yields fell 20-23 bp. Italian, Spanish, and Portuguese benchmark yields dropped 27-30 bp. Australia 10-year yield fell nearly 30 bp.