Encouraging US inflation data drove a complete reversal of last week's market dynamics, coming with renewed optimism the Fed can avoid a recession and steer the economy to a soft landing. Bond yields retraced after steeping sharply last week, resulting in material US dollar weakness and a strong rebound across global equities.
US disinflation broadens
The Fed's tightening cycle could be wound up as early as the end of the month amid signs of a material slowing in the US inflationary pulse. While the Fed has been communicating a further 50bps of rate hikes could be forthcoming, markets sense a final 25bps hike in late July will be the peak for rates ahead of an extended pause. This comes after June's CPI readings came in soft relative to expectations, with both the headline and core measures printing at 0.2% month-on-month; these outcomes drove sharp falls in annual inflation as headline CPI fell from 4% to 3% (27-month low) and the core rate eased from 5.3% to 4.8% (20-month low). Crucially, inflation in core services ex-housing - the components of inflation that have proved least sensitive to rising interest rates - cooled further to 4.0%, well down from last year's 6.5% peak. This may signal to the Fed that the disinflationary process occurring has broadened out sufficiently for it to soon leave rates on hold and allow the lags in the transmission monetary policy to do the rest of the tightening needed to return inflation to the 2% target.
Sweeping change at the RBA
In Australia, sweeping changes at the RBA dominated news this week. After months of speculation, the Federal Government announced RBA Governor Philip Lowe's tenure will not be extended, appointing the current Deputy Governor Michele Bullock to lead the central bank from mid-September. The recent RBA review has also prompted a raft of operational changes to be ushered in from next year. Speaking in Brisbane, Governor Lowe outlined the recommendations the policy-setting Board has agreed to implement.
Most notably, the RBA will depart from its schedule of monthly meetings it has maintained since 1990, moving to an arrangement of 8 meetings per year (from 11), with each decision to be accompanied by a post-meeting press conference. Also, the quarterly Statement on Monetary Policy (that includes the RBA's economic forecasts) will be released alongside the relevant decision (February, May, August and November), rather than with the 3-day lag that has been the usual practice; this is an important change that will assist the Board in giving more detailed and timely explanations of its decisions and also brings the RBA into alignment with other central banks in this aspect.
Governor Lowe also spoke on monetary policy, reiterating that the Board is in a data-dependent mode, yet to reach any conclusion on whether rates were appropriately calibrated to return inflation to the 2-3% target band. A key update on the labour market is on the calendar next week ahead of Q2's CPI report in the following week.
Inflation risks keeping the ECB on guard
The account of the ECB's June meeting summarised the Governing Council's intention to tighten monetary policy further. Upside risks to the ECB's inflation outlook associated with wage-price dynamics led the Governing Council to conclude that rates were not yet at a sufficiently restrictive level. With that in mind, the account prescribed the continuation of a "gradual tightening path", giving recognition to the balance of considerations between further rate hikes and allowing the full effects of past tightening to transmit to the economy.
Pressure remains on the BoE
Another robust update on the UK labour market, including an acceleration in wages growth, puts the prospect of another 50bps rate hike from the BoE on the table for August, following the June decision to reaccelerate the pace of tightening. Although the unemployment rate ticked up from 3.8% to 4.0%, employment (102k) and wages growth (ex-bonuses) (7.3%) surprised to the upside of expectations in the May report. Meanwhile, the BoE published its half-yearly Financial Stability Report this week. The report outlined that risks lay ahead as the large share of fixed-rate mortgages are refinanced at much higher rates, but highlighted the banking system was well capitalised and profitable, and regulatory changes from recent years had been effective in preventing a rise in households facing mortgage stress.
