An upside surprise on the key data point of the week took US inflation through 9%Y/Y in June, confirming the Fed and its global peers will remain hawkish for the foreseeable future. The Bank of Canada hiked aggressively by 100bps outdoing expectations for 75bps, while the Reserve Bank of New Zealand and Bank of Korea both hiked by 50bps. Growth concerns remained in focus in Europe, not helped by the slowdown in Chinese GDP from 4.8%Y/Y to 0.4%Y/Y (vs 1.2% expected) as Covid lockdowns returned in Q2.
Strength to strength in the Australian labour market...
A strong labour force report for June was headlined by the national unemployment rate coming in from 3.9% to 3.5% (vs 3.8% expected), re-establishing a new low for the cycle dating back to 1974 (full review here). Employment has ramped up significantly rising by 88.4k in June (vs 30k expected) following the 60.6k increase in May. This came after a slowdown over March-April, impacted by the east coast floods and the Easter holiday period. The acceleration in employment is more in line with the underlying momentum in the economy and the high levels of job vacancies point to further gains. Encouragingly, strong labour demand has again seen the participation rate resetting to a new record high of 66.8%.
Wages growth was still subdued as of Q1 (2.4%Y/Y), but the labour market conditions are set to see the pace lift in coming quarters. However, record high participation is a key reason why we should not see the sort of escalation in domestic wage pressures to the extent that the US and UK have experienced. While there is now speculation the RBA could speed up to hiking rates by 75bps at the August meeting, I stick with 50bps for now seeing the upcoming Q2 CPI data as the more influential factor for the Board.
... but cost of living concerns weigh on sentiment
Concerns around cost of living pressures and rising interest rates continue to far outweigh confidence in the labour market as the Westpac-Melbourne Institute Index of consumer sentiment fell by a further 3% in July to be close to the lows seen during previous economic downturns. The scale of the decline seen over 2022 (-19.6%) has been striking, though it has run counter to the economic conditions, with the spending data particularly strong. Business confidence in the NAB survey for June also fell sharply to a below average level. In contrast, the measures of current trading conditions are very strong, as are the outlook components in forward orders and employment intentions.
Another upside surprise on US inflation...
Annual headline inflation in the US printed with a 9 handle (9.1%) for the first time since 1981 after the increase in the month-month CPI came in at 1.3% in June, stronger than the 1.1% lift expected. The core rate (excludes food and energy) was posted at 0.7%m/m, also above the median estimate (0.5%), with the annual pace fading for the 4th month running, now at 5.9% (vs 5.7% expected) from 6.5% in March.
Supply constraints affected by refining capacity and the war in Ukraine saw gasoline prices surging in the month (11.2%, 59.9%Y/Y), driving the outcome for headline inflation. Further rises for food (1%m/m, 10.4%Y/Y) and shelter (0.6%m/m, 5.6%Y/Y) again underscored the cost of living pressures US households are facing. The inflationary pulse coming from services (ex-energy) continues to increase (0.7%m/m, 5.7%Y/Y), a concerning development given that price rises in these categories tend to be stickier than in goods. Speaking of goods, with last year's price surges continuing to fall out of the annual calculation, inflation in durables fell by 3ppts to 8.4%Y/Y, albeit with June's outcome (0.7%m/m) surprising after several weak prints.
... leads to speculation of even faster Fed rate hikes
The idea that the Fed could follow the BoC and hike rates by 100bps later this month gained some traction in the markets post the CPI data. Comments from Fed officials Waller and Bullard pushed back against those calls, with both in support of another 75bps rate hike. Governor Waller said a larger hike could be on the radar if supported by other data, including this week's retail sales report. That report showed June retail sales were strong, with headline (1.0%m/m), core (0.7%m/m) and control group sales (0.8%m/m) all above expectations, more than rebounding from weak outcomes in May. There are varying interpretations of June's outturns given that retail sales include the inflationary component from rising prices, but at the end of the day, the data shows nominal spending is rising not falling.
Deteriorating outlook sees the euro breach parity
The summer economic forecasts published by the European Commission predicting slower growth and higher inflation are headwinds that saw the single currency breach parity to the US dollar for the first time in 20 years this week. Forecast growth in the euro area for 2022 was revised down to 2.6% from 2.7% while the growth outlook in 2023 was cut from 2.3% to 1.4%. It is fair to say markets are significantly more pessimistic on prospects than those forecasts, due in part to uncertainty around whether Russia will turn the energy taps back on once the Nord Stream 1 pipeline reopens from maintenance works.
In response to that risk, European natural gas prices have risen sharply, adding not only to growth concerns but also to the inflation outlook. The Commission raised its 2022 inflation forecast to 7.6% from 6.1% and to 4.3% from 2.7% in 2023. This all comes ahead of next week's ECB meeting where the Governing Council is expected to stick to its prior guidance and hike rates by 25bps.
Over in the UK, the monthly GDP estimate for May was stronger than expected at 0.5%, rebounding from a contraction in April (-0.2%). The production (0.9%) and construction sector (1.5%) both expanded but it was a 0.4% rise in services output that drove the headline increase, led by a large rise in GP appointments. The weak point was a 0.1% fall in consumer services, suggesting that cost of living pressures were weighing on household spending. Although mainly of academic interest, a speech by BoE Governor Bailey discussed the structural drivers that have been pushing down interest rates over recent decades, arguing they are likely to limit the ability of central banks to raise rates unless reversed.