Fed Rate Cuts on the Horizon, Risks Remain

Monitor global geopolitical developments, the ECB meeting and Eurozone inflation data (week 30), and the Fed's interest rate decision and US economic releases (week 31).

Wednesday, 17 July, Week 29

The Balancing Act: Fiscal Policy in a Divided Landscape

The US fiscal policy landscape over the past five months has been characterised by a delicate balancing act. The Biden administration's 2025 Budget proposal, released in March, aims to reduce the deficit by $3 trillion over the next decade from the baseline projection while continuing to invest in key areas like infrastructure, clean energy, and education. This proposal, however, faces an uncertain future in a divided Congress. The Fiscal Responsibility Act of 2023, enacted in June, provided some near-term fiscal certainty by suspending the debt limit through January 2025. However, the Act also imposed spending caps that could limit the scope of future fiscal stimulus.

The current fiscal policy stance can be described as moderately expansionary. While the deficit reduction measures in the 2025 Budget and the spending caps in the Fiscal Responsibility Act point to a commitment to fiscal discipline, the ongoing implementation of the Bipartisan Infrastructure Law, the Inflation Reduction Act, and the CHIPS and Science Act continue to provide significant fiscal support to the economy. This support has helped to boost economic growth and create jobs, but it has also contributed to the rise in inflation.

Looking ahead to the next five weeks, fiscal policy is likely to remain in the background as the focus shifts to the upcoming Federal Reserve meeting and the release of key economic data. However, the political debate over the 2025 Budget and the longer-term fiscal outlook could heat up as the presidential election draws closer. The outcome of this debate will have significant implications for the USD, as a perception of fiscal profligacy could weigh on the currency. Forex traders should pay close attention to any developments that could signal a shift in the US fiscal policy stance.

Riding the Wave: Navigating the US Economic Outlook

The US economy has shown resilience over the past five months, continuing to expand despite facing headwinds from elevated inflation, rising interest rates, and geopolitical uncertainty. The labour market has remained strong, with solid job gains and a low unemployment rate. Inflation has eased from its peak but remains above the Federal Reserve's 2 percent target. Consumer spending has been supported by a strong labour market and accumulated savings, but there are signs that higher prices and borrowing costs are starting to weigh on consumer sentiment.

The US economic outlook for the next five weeks and beyond is clouded by uncertainty. The Federal Reserve's interest rate decision in Week 31 will be a major focal point for the market. Markets are currently pricing in a rate cut in September, but the Fed's communication suggests a more data-dependent approach. Key US economic data releases, such as CPI, retail sales, and employment data, will be closely watched for clues about the Fed's next move.

Economic Growth:

• United States GDP Growth Rate: Measures the annualised percentage change in the value of all goods and services produced in the US. The previous result for Q1 2024 was 3.40%, the latest was 1.40%, and the forecast for Q2 2024 is not yet available. GDP growth has slowed significantly from the robust pace seen in 2023, reflecting the impact of higher interest rates and slowing global growth. The outlook for GDP growth in the coming weeks and beyond will depend on the evolution of inflation, the Fed's monetary policy stance, and consumer and business sentiment. The third estimate of Q1 GDP will be released on June 27th.

• United States Durable Goods Orders: Measures the value of new orders placed with domestic manufacturers for durable goods, providing insights into business investment and manufacturing activity. The previous result was 0.20%, the consensus was -0.10%, the latest was 0.10%, and the forecast is not yet available. Durable goods orders have been volatile in recent months, reflecting uncertainty about the economic outlook. The outlook for durable goods orders will depend on business confidence, interest rates, and global demand.

Labour Market:

• United States Non Farm Payrolls: Measures the change in the number of employed people in the US excluding farm workers, providing a key indicator of labour market strength. The previous result was 165K, the consensus was 185K, the latest was 272K, and the forecast is 160.0K. Nonfarm payrolls have been strong in recent months, indicating a robust labour market. The outlook for nonfarm payrolls will depend on the pace of economic growth, business confidence, and wage pressures. The June data will be released on July 5th.

• United States Unemployment Rate: Measures the percentage of the labour force that is unemployed, providing a key indicator of labour market slack. The previous result was 3.90%, the consensus was 4%, the latest was 4.00%, and the forecast is 4.00%. The unemployment rate has edged up slightly in recent months but remains low. The outlook for the unemployment rate will depend on the pace of economic growth and labour force participation.

• United States Job Openings: Measures the number of job openings on the last business day of the month, providing insights into labour demand. The previous result was 7.919M, the consensus was 7.91M, the latest was 8.14M, and the forecast is not yet available. Job openings have declined from their peak but remain elevated, indicating continued strong labour demand. The outlook for job openings will depend on the pace of economic growth and business confidence. The June data will be released on July 30th.

Price Changes (Inflation):

• United States Inflation Rate: Measures the annual percentage change in the Consumer Price Index (CPI), a widely followed measure of consumer price inflation. The previous result was 3.30%, the consensus was 3.10%, the latest was 3%, and the forecast is 2.80%. Inflation has eased from its peak but remains above the Fed's 2 percent target. The outlook for inflation will depend on the evolution of energy prices, supply chain disruptions, and wage pressures. The July CPI data will be released on August 14th.

• United States Core Inflation Rate: Measures the annual percentage change in the CPI excluding food and energy prices, providing a measure of underlying inflation trends. The previous result was 3.40%, the consensus was 3.40%, the latest was 3.30%, and the forecast is 2.50%. Core inflation has also eased from its peak but remains above the Fed's target. The outlook for core inflation will depend on the evolution of shelter costs, wage pressures, and inflation expectations.

• United States Producer Price Inflation MoM: Measures the monthly percentage change in producer prices for final demand, providing insights into inflationary pressures at the wholesale level. The previous result was 0%, the consensus was 0.10%, the latest was 0.20%, and the forecast is 0.10%. Producer price inflation has been volatile in recent months, reflecting fluctuations in energy and commodity prices. The outlook for producer price inflation will depend on the evolution of input costs, supply chain disruptions, and demand conditions. The July PPI data will be released on August 13th.

Housing Market:

• United States Building Permits: Measures the number of building permits issued for new residential construction, providing a leading indicator of housing market activity. The previous result was 1.399M, the consensus was 1.40M, the latest was 1.446M, and the forecast is 1.650.00M. Building permits have been volatile in recent months, reflecting uncertainty about the outlook for the housing market. The outlook for building permits will depend on mortgage rates, home prices, and housing affordability.

• United States Housing Starts: Measures the number of new residential construction projects started, providing a key indicator of housing market activity. The previous result was 1.314M, the consensus was 1.30M, the latest was 1.353M, and the forecast is 1.38M. Housing starts have also been volatile in recent months, reflecting similar factors as building permits. The outlook for housing starts will depend on the same factors as building permits.

• United States Existing Home Sales: Measures the number of existing homes sold, providing insights into the overall health of the housing market. The previous result was 4.14M, the consensus was 4.10M, the latest was 4.11M, and the forecast is 4.12M. Existing home sales have declined in recent months, reflecting the impact of higher mortgage rates and home prices on housing affordability. The outlook for existing home sales will depend on the evolution of mortgage rates, home prices, and housing inventory. The June data will be released on July 23rd.

Business Confidence:

• United States ISM Manufacturing PMI: Measures the level of activity in the manufacturing sector, providing insights into overall economic growth. The previous result was 48.7, the consensus was 49.1, the latest was 48.5, and the forecast is 53.00. The ISM Manufacturing PMI has been below 50 for three consecutive months, indicating contraction in the manufacturing sector. The outlook for the ISM Manufacturing PMI will depend on the pace of economic growth, new orders, and input prices. The July PMI will be released on August 1st.

• United States ISM Services PMI: Measures the level of activity in the services sector, providing insights into overall economic growth. The previous result was 53.8, the consensus was 52.5, the latest was 48.8, and the forecast is 53.00. The ISM Services PMI also fell sharply in June, indicating a contraction in the services sector. The outlook for the ISM Services PMI will depend on consumer spending, business confidence, and employment trends.

Consumer Sentiment:

• United States Michigan Consumer Sentiment: Measures consumer confidence in the US economy, providing insights into consumer spending patterns. The previous result was 68.2, the consensus was 68.5, the latest was 66, and the forecast is 77.00. Consumer sentiment has declined in recent months, reflecting concerns about inflation and the economic outlook. The outlook for consumer sentiment will depend on the evolution of inflation, the labour market, and consumer confidence.

• U.S. Retail Sales: Measures the total receipts of retail stores in the US, providing a key indicator of consumer spending. The previous result was 0.30%, the consensus was 0%, the latest was 0%, and the forecast is 0.50%. Retail sales have been volatile in recent months, reflecting the impact of inflation and shifting consumer spending patterns. The outlook for retail sales will depend on consumer confidence, the labour market, and inflation. The June data will be released on July 16th.

Foreign Trade:

• United States Balance of Trade: Measures the difference between the value of US exports and imports, providing insights into the country's trade position. The previous result was $-74.5B, the consensus was $-76.2B, the latest was $-75.1B, and the forecast is $-76B. The US trade deficit has widened in recent months, reflecting strong domestic demand and a strong USD. The outlook for the trade deficit will depend on the strength of the USD, global demand, and supply chain disruptions. The June data will be released on August 7th.

The American Engine: Assessing the Nation's Economic Health

The US economy's performance is crucial for the global economy, as it is the world's largest economy and a major driver of global growth. The US economic situation is currently characterised by solid growth, a strong labour market, and elevated inflation. The economy has shown resilience in the face of headwinds from rising interest rates and geopolitical uncertainty, but there are signs that growth is moderating. The labour market remains robust, with solid job gains and a low unemployment rate. However, inflation remains above the Fed's target, prompting the central bank to maintain a restrictive monetary policy stance.

Over the past five months, the US economy has experienced a slowdown in GDP growth, with the first quarter of 2024 recording the lowest growth since the contractions in the first half of 2022. Despite this slowdown, the labour market has remained strong, with solid job gains and a low unemployment rate. Inflation has eased from its peak but remains above the Fed's 2 percent target. The housing market has shown signs of cooling, with existing home sales declining in recent months. Business confidence has also weakened, with the ISM Manufacturing PMI and ISM Services PMI both indicating contractions in June.

Looking ahead to the next five weeks and beyond, the outlook for the US economy is uncertain. The Fed's interest rate decision in Week 31 will be a major focal point for the market. Markets are currently pricing in a rate cut in September, but the Fed's communication suggests a more data-dependent approach. Key US economic data releases, such as CPI, retail sales, and employment data, will be closely watched for clues about the Fed's next move. The outcome of the US presidential election in November could also have a significant impact on the economy, depending on the policies of the winning candidate.

Relevant Economic Indicators:

• United States GDP Growth Rate: The previous result for Q1 2024 was 3.40%, the latest was 1.40%, and the forecast for Q2 2024 is not yet available. GDP growth has slowed significantly from the robust pace seen in 2023, reflecting the impact of higher interest rates and slowing global growth. The outlook for GDP growth in the coming weeks and beyond will depend on the evolution of inflation, the Fed's monetary policy stance, and consumer and business sentiment. The third estimate of Q1 GDP will be released on June 27th.

• United States Non Farm Payrolls: The previous result was 165K, the consensus was 185K, the latest was 272K, and the forecast is 160.0K. Nonfarm payrolls have been strong in recent months, indicating a robust labour market. The outlook for nonfarm payrolls will depend on the pace of economic growth, business confidence, and wage pressures. The June data will be released on July 5th.

• United States Inflation Rate: The previous result was 3.30%, the consensus was 3.10%, the latest was 3%, and the forecast is 2.80%. Inflation has eased from its peak but remains above the Fed's 2 percent target. The outlook for inflation will depend on the evolution of energy prices, supply chain disruptions, and wage pressures. The July CPI data will be released on August 14th.

• United States Balance of Trade: The previous result was $-74.5B, the consensus was $-76.2B, the latest was $-75.1B, and the forecast is $-76B. The US trade deficit has widened in recent months, reflecting strong domestic demand and a strong USD. The outlook for the trade deficit will depend on the strength of the USD, global demand, and supply chain disruptions. The June data will be released on August 7th.

The Fed's Tightrope Walk: Balancing Inflation and Growth

The Fed's current monetary policy stance can be described as restrictive. However, recent economic data, including slowing inflation and a cooling housing market, have raised market expectations for the Fed to begin cutting rates sooner than previously anticipated. The path of the federal funds rate implied by futures prices indicates one and one-half 25 basis point cuts by year-end. This suggests that the Fed is facing a delicate balancing act between controlling inflation and supporting economic growth.

The outlook for monetary policy over the next five weeks will depend on the evolution of inflation and the labour market. The Fed's interest rate decision in Week 31 will be a major focal point for the market. If the Fed signals a more dovish stance than expected, the USD could weaken. Conversely, if the Fed maintains its hawkish rhetoric, the USD could strengthen. Key US economic data releases, such as CPI, retail sales, and employment data, will also be closely watched for clues about the Fed's next move. As stated in the June FOMC minutes, "The Committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2 percent."

Navigating the Minefield: Key Risks to the US Macroeconomic Outlook

Top Three Risks (Previous Five Months):

1. US Inflation Persistence (March - July 2024): While headline inflation has shown signs of easing, core inflation has been stickier, raising concerns about the persistence of inflationary pressures. This has kept the Fed on a hawkish path, contributing to market volatility and uncertainty about the economic outlook.

   • Key Developments:

     • Core PCE inflation remained elevated at 2.8% in April.

     • The Fed's June Summary of Economic Projections (SEP) revised core PCE inflation forecasts higher for 2024 and 2025.

     • Several Fed officials have expressed concerns about the persistence of inflation in recent speeches.

2. Banking Sector Stress (March - April 2024): The collapse of several regional banks in March and April raised concerns about the stability of the US banking sector. While the Fed's swift actions helped to contain the crisis, lingering concerns about bank balance sheets and lending conditions have weighed on market sentiment.

   • Key Developments:

     • The Fed established the Bank Term Funding Program (BTFP) to provide liquidity to banks.

     • Credit conditions tightened for small businesses and in the commercial real estate sector.

     • Market volatility spiked in March and April, reflecting heightened uncertainty.

3. US Presidential Election Uncertainty (July 2024): The upcoming US presidential election in November has injected a new layer of uncertainty into the economic outlook. The policies of the winning candidate could have a significant impact on the economy, fiscal policy, and monetary policy.

   • Key Developments:

     • The failed assassination attempt on former US President Donald Trump has heightened political tensions.

     • Market participants are closely watching the polls and policy proposals of the candidates.

     • Uncertainty about the election outcome could weigh on business and consumer confidence.

Top Three Risks (Following Five Weeks):

1. Fed Decision and US Data (Week 31): The Federal Reserve's interest rate decision in Week 31 will be a major focal point for the market. If the Fed signals a more dovish stance than expected, the USD could weaken. Conversely, if the Fed maintains its hawkish rhetoric, the USD could strengthen. Key US economic data releases, such as CPI, retail sales, and employment data, will also be closely watched for clues about the Fed's next move.

2. ECB Meeting and Eurozone Inflation (Week 30): The European Central Bank's monetary policy meeting in Week 30 will be another key event for the market. The ECB is widely expected to hold interest rates steady, but any hints about the future path of monetary policy could impact the EUR. Eurozone inflation data will also be closely monitored, as persistent inflation could prompt the ECB to adopt a more hawkish stance.

3. Geopolitical Tensions (Weeks 29-33): Geopolitical tensions, such as the ongoing war in Ukraine, the US-China trade dispute, and tensions in the Middle East, could continue to weigh on risk sentiment and impact currency valuations. Any escalation in these tensions could trigger a flight to safety, benefiting safe-haven currencies such as the USD, CHF, and JPY.

Conclusion: The USD at a Crossroads

The US economy is at a critical juncture. While the economy has shown resilience in the face of headwinds from elevated inflation and rising interest rates, the outlook for the coming weeks and months is uncertain. The Federal Reserve's monetary policy stance, the evolution of inflation, and the outcome of the US presidential election will be key factors to watch. Forex traders should closely monitor upcoming economic data releases, Fed communications, and geopolitical developments for clues about the future direction of the USD.

Action Points:

• Week 30: Monitor the ECB meeting and Eurozone inflation data.

• Week 31: Focus on the Fed's interest rate decision and US economic data releases, including CPI, retail sales, and employment data.

• Weeks 29-33: Stay informed about geopolitical developments, particularly the war in Ukraine, the US-China trade dispute, and tensions in the Middle East.

Sources

• U.S. Treasury

• Federal Reserve

• U.S. Bureau of Labor Statistics

• U.S. Bureau of Economic Analysis

• U.S. Census Bureau

• U.S. Department of Labor

• Federal Reserve Bank of New York

• Federal Reserve Bank of Philadelphia

• Federal Reserve Bank of Dallas

• Federal Reserve Bank of Chicago

• National Association of Home Builders

• National Association of Realtors

• Standard & Poor's

• EUROSTAT

• European Central Bank

• Ministère de l'Économie et des Finances

• Federal Statistical Office (Germany)

• INSEE (France)

• Centre for European Economic Research (ZEW)

• European Commission

• GfK Group

• Ifo Institute

• Office for Budget Responsibility (UK)

• Bank of England

• Office for National Statistics (UK)

• Confederation of British Industry

• BRC - British Retail Consortium

• Nationwide Building Society

• Halifax and Bank of Scotland

• Ministry of Finance (Japan)

• Bank of Japan

• Cabinet Office (Japan)

• Ministry of Internal Affairs & Communications (Japan)

• Statistics Bureau of Japan

• Ministry of Economy Trade & Industry (METI)

• Tankan Sponsored by Thomson Reuters

• Ministry of Land, Infrastructure, Transport and Tourism (Japan)

• Reuters

• Bloomberg

• Trading Economics

• S&P Global

• Financial Times

• The Wall Street Journal

• Stratfor

• RANE

• CFTC