The force that had pushed the US 10-year Treasury yield to 3% and the dollar above JPY113 at the start of the month, and the euro to $1.13 a couple of weeks ago, has dissipated. The 10-year yield is near 2.80%. The dollar was near two-month lows against the yen a week ago, and the euro was back toward the middle of its previous $1.15-$1.18 trading range. Even the Australian dollar, the worst performing of the major currencies last week after the Japanese yen, is back in its old trading range ($0.7300-$0.7500) despite a dramatic political wobble, a new Prime Minister, and a central bank that seems content to watch and wait.
US economic data has been undershooting expectations, but the NY Fed’s GDP Tracker suggesting growth is slowing from 4.1% in Q2, which looks vulnerable to a small downside revision next week, to 2.0% in Q3, seems to be exaggerating while the Atlanta Fed’s GDPNow suggesting the economy is accelerating (4.6%) also appears wide of the mark. We suspect the risks are on the downside for this week’s three new data points covering July goods trade, income, and consumption.
The trade deficit narrowed in Q2 but the effort to beat the sanctions appears to have faded, and the risk is that the combination of growth differentials and the dollar’s recovery spurs deterioration in Q3. Consumption rose at a 4% clip in Q2 according to the preliminary GDP estimate. It is unsustainable. A slowdown should be evident in the monthly personal consumption data. The average monthly gain was 0.5% in Q2. The Bloomberg median forecast is for a 0.4% rise in July. The overshoot to the upside is often followed by an overshoot to the downside. The weakness in many agriculture prices could be an unanticipated drag on household income.
Growth seems to be moderating toward a more sustainable pace, still juiced by fiscal stimulus and deregulation. A larger trade deficit and slower consumption suggest upward pressure on inventories. Neither President Trump’s criticism of Fed policy nor Powell’s speech at Jackson Hole managed to alter investors’ view that a September rate hike is nearly a foregone conclusion (90%+).
There is a clear leaning toward another move in December (~60%), but there is room for improvement. Perhaps that is the next driver-shifting expectations for the December meeting – but there are at least a couple of prerequisites. First, the September projections by the Fed will be helpful. Recall, one member changed their forecasts from March to June, shifting the median dot to favor two hikes here in H2. Second, the economic data and broader conditions are important, and the visibility may not be sufficient for confidence until early October, especially if the curve continues to slowly flatten.
