The main event next week will be the ECB meeting, where the previous leadership is likely to change to take longer to make negative tariffs. That could cement the divergence with the Fed and other central banks moving to higher rates. There are also economic data during the earnings season kick-off.
What kind of inflation?
Another week, another hot inflation number that the markets didn’t care much about. Most of the acceleration of inflation has been concentrated in sectors with reopening sectors, so both the Fed and the bond markets continue to dismiss this phenomenon as something that will fade soon when easy supply chains.
The counter-argument is that once the reopening momentum disappears, other elements could be strengthened to keep inflation warm. For example, house prices have failed this past year, but rents have not followed suit, thanks to the eviction moratorium. The moratorium ends this month, so will rents catch fire in August? Remember that ‘shelter’ contains a third of the total IPK weight.
Meanwhile, many Republican states have already cut the generous federal unemployment benefits that will expire in September nationwide. This means a flood of workers could soon return, sparking a number of stellar job reports. Add up the $ 4.1 trillion in new spending Biden is trying to launch, and it’s a recipe that can keep inflation at bay.
In short, the United States may not escape this inflationary environment as quickly as the Fed and markets now think. With the economy approaching full employment and inflation high in the fall, the Fed may have to slow down. This means less money printing and possibly higher interest rates, which is good news for the dollar.
It is a similar story in New Zealand, Canada, and less so in the United Kingdom. The RBNZ will end its asset purchases next week and markets are pricing an 88% probability for a rate hike next month already. The kiwi has not responded much so far, as rising yields have been accompanied by rising inflation expectations, while maintaining real yields.
That could change soon. Inflation fears could ease as RBNZ actually raises rates, allowing real yields to rise and raise the kiwi, especially against the yen and the franc, which will not enjoy higher rates soon.
ECB lock itself into negative tariffs
All eyes will be on the European Central Bank on Thursday, after President Lagarde promised to give new political signals at this meeting. The ECB has recently raised its inflation target and policymakers want to prove that they are seriously hitting it. This is done by signaling to the markets that tariffs will not grow for a very long time.
In addition to committing to negative rates for a longer period of time, the ECB could also send a clear message that once its pandemic purchase program ends next year, it will likely be replaced by regular asset purchases. In a word, more quantitative mitigation for a longer time.
That is bad news for the euro. With the ECB slipping into negative rates but the Fed moving towards rate hikes, yield differentials could widen more in favor of the dollar, pushing euro / dollar lower over time. The last time these central banks drifted in the opposite direction was in 2014-2015, a period of massacre for the euro / dollar. The impact could be smaller this time around, as the ECB will not lower rates as then, but the direction is the same.
Across the ECB, the euro will also pay attention to previous PMI surveys for June, on Friday. Economic reopening momentum remained strong in July, but the Delta variant, which is spreading like wildfire, is a threat. Spain, Portugal and the Netherlands have seen new outbreaks. It is almost impossible for governments to lock everyone up when half the population is vaccinated, but softer restrictions are credible.
The United States and the United Kingdom are also expecting PMIs
In the UK, Friday will bring the PMIs for July and retail sales for June. The British economy is buzzing nicely and the data is likely to confirm that, despite the latest greedy boom. Much of the population is now vaccinated and hospitalizations fortunately remain low.
A pair of Bank of England officials recently suggested the central bank withdraw some stimulus soon, making the next meeting in August “alive”. The BoE is likely to signal that the end of asset purchases is near and will set the stage for rate hikes that the markets are currently pricing for next summer. That’s a favorable landscape for sterling.
The Markit PMI surveys from the US will also be released on Friday, although traders are usually paying more attention to the ISM surveys.
RBA minutes, Canadian data and revenue
In the area of goods, the Reserve Bank of Australia will release the minutes of its July meeting on Tuesday. This was the meeting where the RBA slowed its asset purchases, but reiterated that rates are unlikely to rise until 2024, neutralizing the strong signal.
The latest shutdowns in Australia have thrown a monkey key into the RBA’s recovery plans, as vaccination has also slowed. Unlike his kiwi cousin, the Australian will not enjoy higher rates in the coming years, which poses disadvantageous risks for the aussie / kiwi pair.
In Canada, retail sales for May will sell off markets. The safe has been hit recently by the rebound in oil prices and a resurgent U.S. dollar, but vaccine rates are high and the outlook for the economy remains bright with U.S. spending benefits likely to spill over. The Bank of Canada appears to be raising rates by next summer.
Finally, the pay season will begin with famous names like Netflix, Intel, Coca Cola, Johnson & Johnson and Verizon reporting their quarterly results.