Okay, so yesterday was an ugly session with inflation concerns pushing the U.S. markets into bear territory. Canadian markets weren’t spared, but have fared better than the States of late due to offsetting resource gains. Traders now weigh the potential for a 75bp hike at Wednesday's FOMC Rate Decision. While Federal Reserve Chair Powell indicated that a 50bp hike was almost certain, markets are now pricing in a 75bp hike after Friday's inflation data showed prices continued to accelerate in May. The last time the Fed hiked rates by 75bps in November 1994 President Clinton was still early in his first term and Alan Greenspan had been Fed Chair for a little over seven years.

 

In the wake of the disappointing CPI print and an uptick in household inflation expectations in the University of Michigan survey and that from the New York Fed (the latter survey appeared to suggest that more households expected higher inflation to become increasingly durable), has resulted in the market materially re-pricing Fed rate expectations. The timing of the CPI release has proved to be something of a problem for the Fed, coming as it did within the quiet period ahead of this week’s meeting. At the most recent press conference, Powell stated that in view of the risks of ‘‘further surprises’’ in the inflation data the Fed would need to be ‘‘nimble in responding to incoming data and the evolving outlook.’’ Fed Chair Powell warned the Fed would consider acting aggressively. The combination of the CPI jump and rising consumer inflation expectations have resulted in amplified concerns that the Fed could consider a 75bps move for the first time since the early Greenspan era.

 

Here in Canada, the market anticipates a third straight monthly gain in manufacturing sales in excess of 2.0%. However, as the data is relatively historical (it covers April, while the current focus is on inflationary dynamics) we would expect the solid number to be largely ignored.

 

European stocks are choppy with the declines in global markets yesterday, raising fears that central banks will be forced into aggressive monetary policy tightening with inflation remaining high. German inflation accelerated to a five-decade high of 7.9% year-over-year in May. At last week’s press conference, European Central Bank President Lagarde went to great lengths to argue that the ECB could design and deploy necessary tools to prevent fragmentation risk. Moreover, Lagarde was at pains to suggest that the ECB would not tolerate monetary policy transmission being compromised by peripheral spread widening. While the ECB holds back from revealing any plans or tools to deal with fragmentation risks we can expect the rate hawks to continue to press their case for aggressive action.

 

In the United Kingdom, the labor market has been the one economic bright spot. The latest jobs data provides something for the doves and the hawks, albeit we still expect the bank to look towards a graduated policy response on Thursday, namely another 25bps hike. In terms of the latest data, another 90k workers were added to payrolls in May, above median assumptions of around 70k. Vacancies remain elevated, reaching another record high at 1.3m. Yet despite apparent resilience, the ILO unemployment measure unexpectedly ticked higher to 3.8%, which marks the first miss compared to expectations since May 2021. Moreover, the drop in the claimant count, 19.7k, was the smallest since March 2021. In other news, the publication of a UK bill that would allow the UK government to unilaterally override the bulk of the Northern Ireland protocol, signed by the UK and EU in late 2019, puts the UK government on a collision course with the European Union and potentially its own backbenchers. The EU could use tomorrow’s weekly European Commission meeting to unfreeze infringement proceedings, a process which was suspended last summer. Additional legal measures are likely to be forthcoming. The UK and EU are not set to embark upon an immediate trade war. The legislation may take more than a year to pass through the Commons, that is assuming that the Prime Minister can force it through the lower chamber, let alone the House of Lords. However, the threat of rising trade tensions is yet another headwind that the UK economy could do without.

 

Asian markets closed mostly lower, but Chinese stocks bucked the overall trend and Hong Kong ended flat. High-Level US, China officials are in talks, raising prospects for Biden-Xi meeting. Ahead of this week’s Bank of Japan decision, where policy is expected to remain unchanged, underlining the central bank’s outlier status the central bank continues to be active in order to maintain Yield Curve Control discipline. Pressure upon BoJ Governor Kuroda to stem rising inflationary influences, amplified by a cheapening currency, is growing. However, for now, we would not expect the BoJ to capitulate, hence the currency is likely to remain the shock absorber.

 

Oil prices rose supported by a tight global supply, with gains capped as worries that fuel demand would be hit by a possible recession. It is being reported that President Biden is set to visit Crown Prince Muhammad bin Salman in Saudi Arabia on July 15^th and 16^th. The first day will include bi-lateral talks. The visit comes as oil supply concerns have proved to overtake previous diplomatic reticence. Discussion of a Federal gas tax holiday underlines the potential political impact of rising gas prices. Ahead of the mid-terms Democratic sources suggest that “It’s definitely an option on the table.”

 

As always, give us a call if you have any questions, or if you'd like to book a review.