Sive Morten
Special Consultant to the FPA
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Fundamentals
The hot point of this week was no doubts, the CPI report. Mostly because it has confirmed some statements as from the Fed members as from big bankers about interest rates - they will go higher. And CPI numbers just provide some background for this statement. At the same time, we see a bit "irrational" behavior of GS and American Express banks that have cut the deposit rates. What does it mean? We suspect that in election year, the interest rates are becoming the political tool and decision on its cut or not cut will be made by political reasons. Still, jump in interest rates have happened not only due CPI numbers but also because of very weak 10-year bonds auction and Fed minutes protocol.
Market overview
The dollar rose across the board on Wednesday, after U.S. inflation rose more than expected in March, pushing out the expected timing of a first rate cut to September from June. Data showed the U.S. consumer price index (CPI) rose 0.4% on a monthly basis in March, compared with the 0.3% increase expected by economists polled by Reuters. On a year-on-year basis, the CPI increased 3.5% versus forecasts of a 3.4% growth. Excluding the volatile food and energy components, core inflation grew 0.4% month-on-month in March, compared with expectations of a 0.3% advance. Annually, it gained 3.8%, versus the estimated 3.7% increase.
Following the CPI data, traders slashed bets that the Federal Reserve would cut interest rates in June to 17%, from 57% late on Tuesday, according to the CME's FedWatch tool. They now see the likelihood of an interest rate cut at the September meeting, with a 66% probability, based on prices of rate futures. Fed fund futures have also reduced the number of rate cuts of 25 basis points (bps) this year to under two, or roughly 44 bps, from about three or four a few weeks ago.
Minutes of the last Fed meeting released on Wednesday suggested that central bank officials were worried that the progress on inflation slowed and they may have to keep interest rates higher for longer.
Barclays economics team on Wednesday said it now sees the U.S. Federal Reserve cutting rates just one time in 2024, by 25 basis points (bps), in light of the upside surprise to the consumer price index (CPI) data released today.
Economists are sticking to their view that inflation in the euro zone will fall to 2% and stay there, a European Central Bank poll showed on Friday, in comforting news as the ECB prepares to cut interest rates. The ECB's latest Survey of Professional Forecasters (SPF) put inflation at 2.4% this year and 2.0% in 2025, 2026 and in the longer term -- unchanged from the previous round of the poll three months earlier.
The euro fell to a fresh two-month low against the dollar on Thursday, after the European Central Bank held interest rates at a record high of 4% as expected but sent a signal that it is preparing for a cut as soon as June, even though stubbornly high U.S. inflation could stop the Federal Reserve from following close behind. ECB President Christine Lagarde said that if a fresh assessment increased policymakers' confidence that inflation is heading back to target, then it "would be appropriate" to cut interest rates, a comment taken as affirmation of a June 6 move.
Three sources close to the discussion also said that a rate reduction in June was still likely, even if Lagarde was not as explicit as some of her colleagues have been.
But the outlook beyond that was more murky, primarily because of the uncertainty over U.S. inflation and the implications for Fed policy.
But the sources said a discussion about U.S. developments formed an important part of Thursday's deliberations, and that after June the ECB could pause until there was more clarity over the Fed's rate path. After the ECB decision, money markets priced around 75 basis points of cuts this year or two moves after June, a slight reduction compared to earlier this week. Consumption in the euro zone is weaker, growth is well below trend and the boost from fiscal spending is also lower, taking some pressures off prices.
The difference in interest rate expectations has widened the gap between U.S. bond and German euro zone yields, hitting its highest since 2019. That has made U.S. bonds more attractive and boosted the dollar.
Thursday's data showed the producer price index (PPI) rose 0.2% month-on-month in March, compared with an 0.3% increase expected by economists polled by Reuters. On a year-on-year basis, it rose 2.1%, versus an estimated 2.2% gain. A separate report showed 211,000 U.S. initial jobless claims for the week ended April 6, compared with a forecast for 215,000, reflecting persistent labor market tightness.
Richmond Fed President Thomas Barkin, a voter this year on the Fed's policy-setting committee, echoed the same sentiment. He said the latest numbers did not increase his confidence that price pressures were easing on a broader basis throughout the economy. Kansas City Federal Reserve President Jeff Schmid said the same.
The U.S. dollar rose to its highest since November on Friday, boosted by safe-haven demand amid geopolitical tension in the Middle East as well as increasing divergence in monetary policy between the Federal Reserve and other major central banks. Israel since Friday awaited an attack by Iran or its proxies, as warnings grew of retaliation for the killing last week of a senior officer in Iran's embassy in Damascus. Iran's supreme leader, Ayatollah Ali Khamenei, accused Israel of the killing and said it "must be punished and shall be" for an operation he said was equivalent to an attack on Iranian soil.
Economic data on Friday showed U.S. import prices increased for a third straight month in March amid rises in the costs of energy products and food, but underlying imported inflation pressures were tame. A separate survey from the University of Michigan showed its preliminary reading of U.S. consumer sentiment softened in April while inflation expectations for the next 12 months and beyond increased.
Dollar Boost
Talk of the euro touching parity with the dollar is returning as policymakers at the European Central Bank look primed to deliver more interest-rate cuts this year than their US peers. Lenders including Bank of America Corp. and Germany’s LBBW are wargaming a variety of tail risks and warn of euro weakness ahead if wagers on the differing pace of rate cuts at the ECB and the Federal Reserve play out. Geoffrey Yu, a senior strategist at Bank of New York Mellon, says the euro could touch parity with the dollar this year and doesn’t rule out a cut by the ECB on Thursday.
Options markets imply only about a 15% chance of a big enough drop in the euro to take it to parity from current levels over the next 12 months. Flows into options since the central bank’s meeting in March suggest low conviction that the euro could weaken much below the psychological support level of $1.05.
Strategists led by Athanasios Vamvakidis at BofA are weighing scenarios where the euro returns to parity against the greenback if the Fed stands pat on rates this year and the ECB delivers three quarter-point cuts. The euro could even fall further if there’s a fresh energy shock, they said.
Every extra cut the ECB delivers relative to the Fed can trigger a 1% move in the euro-dollar exchange rate, according to Samuel Zief, head of global FX strategy at J.P. Morgan Private Bank. Mohamed El-Erian, the president of Queens’ College in Cambridge and a Bloomberg Opinion columnist, added to those voicing risks for the shared currency Tuesday.
Fears of rebounding inflation are forcing investors to prepare for a scenario few expected to confront in 2024: a year without U.S. interest rate cuts. Expectations for how much policy easing the Federal Reserve can deliver are falling rapidly as one strong economic report after another suggests inflation could come creeping back if the U.S. central bank lowers borrowing costs prematurely.
Bond investors are already feeling the pain, as they reposition portfolios amidst a weeks-long selloff that has hammered Treasury prices. Benchmark 10-year yields, which move inversely to bond prices, hit their highest level since November on Wednesday as they breached 4.5%, while two-year yields hit 5% on Thursday. Tim Murray, a capital markets strategist at T. Rowe Price, said he has been shifting out of fixed income, wary that a possible inflationary rebound could erode bonds' future cash flows - "Bonds are a really good recession hedge, but they're not a very good hedge against inflation," he said.
Federal Reserve Governor Michelle Bowman said Friday that it’s possible interest rates may have to move higher to control inflation, rather than the cuts her fellow officials have indicated are likely and that the market is expecting.
US Debt Soap Opera
For now investors treat raising of the US yields as an opportunity and the factor that increases its attractiveness. By far nobody thinks about it in the same way as of junk EM bonds with high sky yields - somehow it is not treated as an opportunity. In fact, raising US yields by our opinion is slowly going out from classic treatment where it just reflects the effect of the Fed policy but start reflect the deterioration of the credit quality and implied inflation. Demand for the US debt has dropped, based on recent auctions of 10 and 30 year bonds.
J. Dimon, by the way, is telling reasonable thing. If there is a second wave in the near future, then it will be possible to put a big gravestone on Treasuries as an investment tool. Because everyone remembers the 1970s and 80s and those three waves of inflation. Analogies, you know. Moreover, this will be a combo, because investors have already lost 15%+ of their investments in long-term treasuries, which were bought at zero interest rates, in three years, so it’s time to hit them with inflation by another 20 percent.
Verbal interventions similar to Dimon’s words, only add investors to the camp of the conditional Peter Schiff and Robert Kiyosaki, who actively promote gold (and the latter is also a BTC). But these are still minor things, because it’s not enough to buy gold, you also need to dump any debt assets so that now the market can truly begin to win back inflation at the far end of the yield curve. But this will finally finish off many banks, which one way or another still hold long securities that they do not want to sell and drain their capital due to losses. By the way, this scenario may still be beneficial for Dimon (recall SVB), and Yellen also hinted at the inevitability of consolidation of the sector.
Meanwhile, there seems to be no one wants to take the long treasuries. Perhaps due to the fact that the budget deficit is a record $1.07 trillion. For half a year. Moreover, the structure of the debt has changed a lot lately - everybody are sit in short-term securities. It may turn out that soon there will be no one willing to finance the new budget deficit at all. And it will be necessary to attract the Fed with freshly printed money. In principle, the Fed needs to flood the market right now, but if they wait another quarter or two, then even very large amounts of fresh money may not lead to market growth if the panic in Treasuries is severe enough by that time and inflation has already accelerated.
As we realize that there may be a second and then a third wave of inflation, demand for bonds is bound to weaken. Because why to buy bonds with a yield of 4.5% now, if there is a high probability that in the next couple of years you can lose 15-20 percent from them? Well, here's another narrative that works. Everyone was waiting for a rate cut, but instead, if not an increase, then a retention at the current level looms on the horizon. There is no rate cut - there is no expectation of a native in the stock market. Although these events are not directly related.
But the problem is that if there is no growing stock market, there is no support for the current level of demand. No, of course there is still this support, but the longer the sideways movement, the more the population will shrink in their spending, because the average expected future income, taking into account the profits from investments in the stock market, will also decrease.
The more people squeeze their spending, the more economic growth slows down. If the stock market starts to fall rapidly, then we will simply see a slowdown in demand earlier and it will be deeper, which means an economic downturn and an inevitable weakening of financial conditions, up to the withdrawal of the rate into negative territory, taking into account inflation.
And that's where the beginning of the end will be. Because it's one thing whether inflation will rise or not, the rate of real return above inflation at the moment gives and another - to get a guaranteed loss right here and now. Why will the yields on the same short-term bonds be lower than inflation? At least because banks will always be able to get loans secured by the same treasuries through the discount window at the Fed at the refinancing rate.
The amount due in the coming month set a new historical record and reached $2,369 billion in cuts, which exceeds the normalized income of the US budget for the first half of the year. For comparison: in the summer of 2019, the amount due in the next month was three times less and amounted to $ 834 billons. The amount due in the next 12 months has reached $9182 billion (also a historical record). This amount exceeds the normalized income of the US budget for 24 months.
To keep it short - US budget revenues at face value (excluding inflation) grow over a multi-year interval about 10 times slower than the short-term part of the T-bills pyramid grows, so you don't need to be a mathematician to see how this process will end. That makes owning Treasuries a grim prospect, exacerbated by the still-low chance of a near-term recession in the US, and resurgent inflation.
Some curious moments
Despite clear signs of rising inflation (and this with tight monetary policy), the Fed leadership continues to insist on a high probability of a rate cut. As a matter of fact, it is very possible that this was a response to Larry Summers' speech about the need to raise the rate. But taking into account Summers' article about 18% inflation and recession started in 2021, which we discussed previously, and taking into account the labor statistics data manipulations noted by Powell's subordinates, and finally, taking into account the latest inflation data, we can say that Summers is most likely right.
The trouble is that the political decision to lower the rate in June, apparently, has been made. This is evidenced by the decision of the savings banks Goldman Sachs and American Express to reduce saving rates, which is absolutely irrational based on recent data:
In general, it is clear that it is difficult to make a good decision in such a situation. But it's also scary to cut rates, ignoring economic data. Because this will inevitably cause a sharp increase in inflation and an acceleration of the stock market bubble (this has always happened in history). However, political decisions are always supported by someone:
"The Fed's rate cut may lead to a slowdown in inflation in the United States." Here is a 180-degree reversal suggested to readers by Bloomberg global strategist J.P.Morgan Asset Management Jack Manley. Jack Manley at JPMorgan Chase argues that the Fed’s current rate range of 5.25% to 5.5% are actually inflationary at this point, and that prices won't stabilize more until the the central bank starts cutting.
Manley, however, is not alone. Oppenheimer’s John Stoltzfus hinted last week at the idea that lower mortgage rates would prompt more people to sell their homes, leading to more supply and potentially softer prices.
Beautiful! It is possible to exclude all goods from the calculation of consumer inflation altogether. But the appearance of such "expert" conclusions says a lot about the state of mind in the US expert community. And all this against the background of the ongoing structural crisis in the world.
Conclusion:
Situation is definitely going out of the control. Acknowledged 18% inflation, recession started 2021, tricks by BLS with job data and acknowledgement of households savings deterioration forms gloomy picture. Based on market overview, its major expectations ECB cut in June then pause with looking on the Fed, what they will do. Some experts suggest that the political decision on the rate cut in June is made already. Thus these are two major factors that will drive the EUR/USD. If ECB keep acting independently and keep cutting rates, while the Fed will not cut in June - EUR/USD could drop under 1.05 and start going to parity. Conversely, no rate cut in July by ECB and cut by the Fed in June could lock EUR/USD in the wide range until another strong factor will appear. This is perspective for 2-3 months.
But later, despite all political decisions, the fundamental nature will go on the surface. If you decide to cut rate politically but inflation hits all records this unavoidably hurt US Dollar as real rate will turn negative. But this is uncertainty factor for us, as we do not know is it really decision made already on rate cut or not. Since market will remain in uncertainty as well, at least until June, it seems that EUR has good chances to keep falling in direction of 1.05 area. 200 pips is not too far and absolutely affordable for 2 months period. Let's see.
The hot point of this week was no doubts, the CPI report. Mostly because it has confirmed some statements as from the Fed members as from big bankers about interest rates - they will go higher. And CPI numbers just provide some background for this statement. At the same time, we see a bit "irrational" behavior of GS and American Express banks that have cut the deposit rates. What does it mean? We suspect that in election year, the interest rates are becoming the political tool and decision on its cut or not cut will be made by political reasons. Still, jump in interest rates have happened not only due CPI numbers but also because of very weak 10-year bonds auction and Fed minutes protocol.
Market overview
The dollar rose across the board on Wednesday, after U.S. inflation rose more than expected in March, pushing out the expected timing of a first rate cut to September from June. Data showed the U.S. consumer price index (CPI) rose 0.4% on a monthly basis in March, compared with the 0.3% increase expected by economists polled by Reuters. On a year-on-year basis, the CPI increased 3.5% versus forecasts of a 3.4% growth. Excluding the volatile food and energy components, core inflation grew 0.4% month-on-month in March, compared with expectations of a 0.3% advance. Annually, it gained 3.8%, versus the estimated 3.7% increase.
Following the CPI data, traders slashed bets that the Federal Reserve would cut interest rates in June to 17%, from 57% late on Tuesday, according to the CME's FedWatch tool. They now see the likelihood of an interest rate cut at the September meeting, with a 66% probability, based on prices of rate futures. Fed fund futures have also reduced the number of rate cuts of 25 basis points (bps) this year to under two, or roughly 44 bps, from about three or four a few weeks ago.
Minutes of the last Fed meeting released on Wednesday suggested that central bank officials were worried that the progress on inflation slowed and they may have to keep interest rates higher for longer.
Barclays economics team on Wednesday said it now sees the U.S. Federal Reserve cutting rates just one time in 2024, by 25 basis points (bps), in light of the upside surprise to the consumer price index (CPI) data released today.
Economists are sticking to their view that inflation in the euro zone will fall to 2% and stay there, a European Central Bank poll showed on Friday, in comforting news as the ECB prepares to cut interest rates. The ECB's latest Survey of Professional Forecasters (SPF) put inflation at 2.4% this year and 2.0% in 2025, 2026 and in the longer term -- unchanged from the previous round of the poll three months earlier.
The euro fell to a fresh two-month low against the dollar on Thursday, after the European Central Bank held interest rates at a record high of 4% as expected but sent a signal that it is preparing for a cut as soon as June, even though stubbornly high U.S. inflation could stop the Federal Reserve from following close behind. ECB President Christine Lagarde said that if a fresh assessment increased policymakers' confidence that inflation is heading back to target, then it "would be appropriate" to cut interest rates, a comment taken as affirmation of a June 6 move.
Three sources close to the discussion also said that a rate reduction in June was still likely, even if Lagarde was not as explicit as some of her colleagues have been.
But the outlook beyond that was more murky, primarily because of the uncertainty over U.S. inflation and the implications for Fed policy.
But the sources said a discussion about U.S. developments formed an important part of Thursday's deliberations, and that after June the ECB could pause until there was more clarity over the Fed's rate path. After the ECB decision, money markets priced around 75 basis points of cuts this year or two moves after June, a slight reduction compared to earlier this week. Consumption in the euro zone is weaker, growth is well below trend and the boost from fiscal spending is also lower, taking some pressures off prices.
The difference in interest rate expectations has widened the gap between U.S. bond and German euro zone yields, hitting its highest since 2019. That has made U.S. bonds more attractive and boosted the dollar.
Thursday's data showed the producer price index (PPI) rose 0.2% month-on-month in March, compared with an 0.3% increase expected by economists polled by Reuters. On a year-on-year basis, it rose 2.1%, versus an estimated 2.2% gain. A separate report showed 211,000 U.S. initial jobless claims for the week ended April 6, compared with a forecast for 215,000, reflecting persistent labor market tightness.
Richmond Fed President Thomas Barkin, a voter this year on the Fed's policy-setting committee, echoed the same sentiment. He said the latest numbers did not increase his confidence that price pressures were easing on a broader basis throughout the economy. Kansas City Federal Reserve President Jeff Schmid said the same.
The U.S. dollar rose to its highest since November on Friday, boosted by safe-haven demand amid geopolitical tension in the Middle East as well as increasing divergence in monetary policy between the Federal Reserve and other major central banks. Israel since Friday awaited an attack by Iran or its proxies, as warnings grew of retaliation for the killing last week of a senior officer in Iran's embassy in Damascus. Iran's supreme leader, Ayatollah Ali Khamenei, accused Israel of the killing and said it "must be punished and shall be" for an operation he said was equivalent to an attack on Iranian soil.
Economic data on Friday showed U.S. import prices increased for a third straight month in March amid rises in the costs of energy products and food, but underlying imported inflation pressures were tame. A separate survey from the University of Michigan showed its preliminary reading of U.S. consumer sentiment softened in April while inflation expectations for the next 12 months and beyond increased.
Dollar Boost
Talk of the euro touching parity with the dollar is returning as policymakers at the European Central Bank look primed to deliver more interest-rate cuts this year than their US peers. Lenders including Bank of America Corp. and Germany’s LBBW are wargaming a variety of tail risks and warn of euro weakness ahead if wagers on the differing pace of rate cuts at the ECB and the Federal Reserve play out. Geoffrey Yu, a senior strategist at Bank of New York Mellon, says the euro could touch parity with the dollar this year and doesn’t rule out a cut by the ECB on Thursday.
Options markets imply only about a 15% chance of a big enough drop in the euro to take it to parity from current levels over the next 12 months. Flows into options since the central bank’s meeting in March suggest low conviction that the euro could weaken much below the psychological support level of $1.05.
Strategists led by Athanasios Vamvakidis at BofA are weighing scenarios where the euro returns to parity against the greenback if the Fed stands pat on rates this year and the ECB delivers three quarter-point cuts. The euro could even fall further if there’s a fresh energy shock, they said.
Every extra cut the ECB delivers relative to the Fed can trigger a 1% move in the euro-dollar exchange rate, according to Samuel Zief, head of global FX strategy at J.P. Morgan Private Bank. Mohamed El-Erian, the president of Queens’ College in Cambridge and a Bloomberg Opinion columnist, added to those voicing risks for the shared currency Tuesday.
Fears of rebounding inflation are forcing investors to prepare for a scenario few expected to confront in 2024: a year without U.S. interest rate cuts. Expectations for how much policy easing the Federal Reserve can deliver are falling rapidly as one strong economic report after another suggests inflation could come creeping back if the U.S. central bank lowers borrowing costs prematurely.
Bond investors are already feeling the pain, as they reposition portfolios amidst a weeks-long selloff that has hammered Treasury prices. Benchmark 10-year yields, which move inversely to bond prices, hit their highest level since November on Wednesday as they breached 4.5%, while two-year yields hit 5% on Thursday. Tim Murray, a capital markets strategist at T. Rowe Price, said he has been shifting out of fixed income, wary that a possible inflationary rebound could erode bonds' future cash flows - "Bonds are a really good recession hedge, but they're not a very good hedge against inflation," he said.
Federal Reserve Governor Michelle Bowman said Friday that it’s possible interest rates may have to move higher to control inflation, rather than the cuts her fellow officials have indicated are likely and that the market is expecting.
US Debt Soap Opera
For now investors treat raising of the US yields as an opportunity and the factor that increases its attractiveness. By far nobody thinks about it in the same way as of junk EM bonds with high sky yields - somehow it is not treated as an opportunity. In fact, raising US yields by our opinion is slowly going out from classic treatment where it just reflects the effect of the Fed policy but start reflect the deterioration of the credit quality and implied inflation. Demand for the US debt has dropped, based on recent auctions of 10 and 30 year bonds.
J. Dimon, by the way, is telling reasonable thing. If there is a second wave in the near future, then it will be possible to put a big gravestone on Treasuries as an investment tool. Because everyone remembers the 1970s and 80s and those three waves of inflation. Analogies, you know. Moreover, this will be a combo, because investors have already lost 15%+ of their investments in long-term treasuries, which were bought at zero interest rates, in three years, so it’s time to hit them with inflation by another 20 percent.
Verbal interventions similar to Dimon’s words, only add investors to the camp of the conditional Peter Schiff and Robert Kiyosaki, who actively promote gold (and the latter is also a BTC). But these are still minor things, because it’s not enough to buy gold, you also need to dump any debt assets so that now the market can truly begin to win back inflation at the far end of the yield curve. But this will finally finish off many banks, which one way or another still hold long securities that they do not want to sell and drain their capital due to losses. By the way, this scenario may still be beneficial for Dimon (recall SVB), and Yellen also hinted at the inevitability of consolidation of the sector.
Meanwhile, there seems to be no one wants to take the long treasuries. Perhaps due to the fact that the budget deficit is a record $1.07 trillion. For half a year. Moreover, the structure of the debt has changed a lot lately - everybody are sit in short-term securities. It may turn out that soon there will be no one willing to finance the new budget deficit at all. And it will be necessary to attract the Fed with freshly printed money. In principle, the Fed needs to flood the market right now, but if they wait another quarter or two, then even very large amounts of fresh money may not lead to market growth if the panic in Treasuries is severe enough by that time and inflation has already accelerated.
As we realize that there may be a second and then a third wave of inflation, demand for bonds is bound to weaken. Because why to buy bonds with a yield of 4.5% now, if there is a high probability that in the next couple of years you can lose 15-20 percent from them? Well, here's another narrative that works. Everyone was waiting for a rate cut, but instead, if not an increase, then a retention at the current level looms on the horizon. There is no rate cut - there is no expectation of a native in the stock market. Although these events are not directly related.
But the problem is that if there is no growing stock market, there is no support for the current level of demand. No, of course there is still this support, but the longer the sideways movement, the more the population will shrink in their spending, because the average expected future income, taking into account the profits from investments in the stock market, will also decrease.
The more people squeeze their spending, the more economic growth slows down. If the stock market starts to fall rapidly, then we will simply see a slowdown in demand earlier and it will be deeper, which means an economic downturn and an inevitable weakening of financial conditions, up to the withdrawal of the rate into negative territory, taking into account inflation.
And that's where the beginning of the end will be. Because it's one thing whether inflation will rise or not, the rate of real return above inflation at the moment gives and another - to get a guaranteed loss right here and now. Why will the yields on the same short-term bonds be lower than inflation? At least because banks will always be able to get loans secured by the same treasuries through the discount window at the Fed at the refinancing rate.
The amount due in the coming month set a new historical record and reached $2,369 billion in cuts, which exceeds the normalized income of the US budget for the first half of the year. For comparison: in the summer of 2019, the amount due in the next month was three times less and amounted to $ 834 billons. The amount due in the next 12 months has reached $9182 billion (also a historical record). This amount exceeds the normalized income of the US budget for 24 months.
To keep it short - US budget revenues at face value (excluding inflation) grow over a multi-year interval about 10 times slower than the short-term part of the T-bills pyramid grows, so you don't need to be a mathematician to see how this process will end. That makes owning Treasuries a grim prospect, exacerbated by the still-low chance of a near-term recession in the US, and resurgent inflation.
Some curious moments
Despite clear signs of rising inflation (and this with tight monetary policy), the Fed leadership continues to insist on a high probability of a rate cut. As a matter of fact, it is very possible that this was a response to Larry Summers' speech about the need to raise the rate. But taking into account Summers' article about 18% inflation and recession started in 2021, which we discussed previously, and taking into account the labor statistics data manipulations noted by Powell's subordinates, and finally, taking into account the latest inflation data, we can say that Summers is most likely right.
The trouble is that the political decision to lower the rate in June, apparently, has been made. This is evidenced by the decision of the savings banks Goldman Sachs and American Express to reduce saving rates, which is absolutely irrational based on recent data:
In general, it is clear that it is difficult to make a good decision in such a situation. But it's also scary to cut rates, ignoring economic data. Because this will inevitably cause a sharp increase in inflation and an acceleration of the stock market bubble (this has always happened in history). However, political decisions are always supported by someone:
"The Fed's rate cut may lead to a slowdown in inflation in the United States." Here is a 180-degree reversal suggested to readers by Bloomberg global strategist J.P.Morgan Asset Management Jack Manley. Jack Manley at JPMorgan Chase argues that the Fed’s current rate range of 5.25% to 5.5% are actually inflationary at this point, and that prices won't stabilize more until the the central bank starts cutting.
Manley, however, is not alone. Oppenheimer’s John Stoltzfus hinted last week at the idea that lower mortgage rates would prompt more people to sell their homes, leading to more supply and potentially softer prices.
Beautiful! It is possible to exclude all goods from the calculation of consumer inflation altogether. But the appearance of such "expert" conclusions says a lot about the state of mind in the US expert community. And all this against the background of the ongoing structural crisis in the world.
Conclusion:
Situation is definitely going out of the control. Acknowledged 18% inflation, recession started 2021, tricks by BLS with job data and acknowledgement of households savings deterioration forms gloomy picture. Based on market overview, its major expectations ECB cut in June then pause with looking on the Fed, what they will do. Some experts suggest that the political decision on the rate cut in June is made already. Thus these are two major factors that will drive the EUR/USD. If ECB keep acting independently and keep cutting rates, while the Fed will not cut in June - EUR/USD could drop under 1.05 and start going to parity. Conversely, no rate cut in July by ECB and cut by the Fed in June could lock EUR/USD in the wide range until another strong factor will appear. This is perspective for 2-3 months.
But later, despite all political decisions, the fundamental nature will go on the surface. If you decide to cut rate politically but inflation hits all records this unavoidably hurt US Dollar as real rate will turn negative. But this is uncertainty factor for us, as we do not know is it really decision made already on rate cut or not. Since market will remain in uncertainty as well, at least until June, it seems that EUR has good chances to keep falling in direction of 1.05 area. 200 pips is not too far and absolutely affordable for 2 months period. Let's see.
