The US economy continues to defy the global downturn, and the dollar is reaping the benefits. Dismal July data from German factories and more jitters about the Chinese downturn slammed equities worldwide, but US Treasury yields marched higher anyway. Not surprisingly, the dollar benefited from these worries, particularly since the US economy is so far shrugging off economic weakness elsewhere, and high-frequency data there are surprising to the upside more often than not. Almost every major currency lost ground against the greenback last week. This week is shaping up to be a key one for financial markets. On Wednesday, we get possibly the most important single economic report worldwide, the August CPI inflation data out of the US. The recent gains in energy prices worldwide probably mean we will see a rebound, though, as always, the core index is more important. On Thursday, the ECB will hold its September rate-setting meeting. The ECB’s decision is finely balanced as the central bank navigates between weak economic data on one side and stubborn inflation pressures on the other.
The PMI indices of business activity saw an unusually large upward revision last week. This didn’t help sterling much, and the pound ended the week near the bottom of the G10 rankings, as markets continue to bring down their expectations of Bank of England terminal rates. This week’s labour market data will be key to the MPC’s rate decision later in the month. Absent a very weak report, which we do not expect, the Bank of England should hike rates again to combat sticky wage inflation, which should lend support to the pound.
The streak of bad data out of the Eurozone continued last week. August PMI numbers were revised down from already depressed levels. The second quarter GDP growth was also revised down, further indicating that the Eurozone economy is stalling. German factory data for July was particularly dismal. The ECB task at its meeting this week looks particularly difficult. On the one hand, the signs of an economic stall keep piling up. On the other hand, there are as yet no clear signs that inflation is trending down, at least not in the critical core numbers. The decision will be finely balanced, but we are now leaning towards a hike, which could help pull the common currency out of its doldrums.
A spate of economic data last week suggested that the US continues to defy gravity. The US counterpart to the PMI numbers, the ISM, came out stronger than expected, as did weekly jobless claims. 10-year Treasury rates are hovering near 1-year highs, and the dollar is unsurprisingly benefiting from the gap in economic performance across the Atlantic. This week’s inflation data is key. While the headline index may rebound somewhat, markets expect the monthly core number to be consistent with sub-3% annualized inflation, which should open the way for a Federal Reserve pause at its September meeting.