Signs of slowing disinflation in the US has markets sensing the Fed will be in no rush to remove restrictive monetary policy settings. Markets remain convinced easing cycles will occur in the US and other countries this year, but the timing and extent of rate cuts expected continues to swing around on the incoming data. Higher bond yields weighed on US equities whereas Japan's Nikkei continued to surge and Europe also advanced.
Fed rate cut expectations continue to be wound back, with the catalyst this week being upside surprises in January's inflation data. Headline CPI (0.3%m/m) eased from 3.4% to 3.1%yr while the core rate (0.4%m/m) was unchanged at 3.9%yr, both coming in above consensus for 2.9% and 3.7% respectively. Slower disinflationary progress in January was reinforced by a stronger-than-expected lift in producer prices of 0.3%m/m. As a result, between 3-4 rate cuts are now priced for 2024, well down from the 7 cuts that were being discounted just a few weeks ago. This also brings market pricing closer to the Fed's signalling of 3 cuts for 2024. Inflation in January was driven by components such as services (0.7%m/m, 5%yr) and housing (0.6%m/m/6.1%yr), viewed by some as being indicative of the strength in the US labour market and domestic demand more generally. By contrast, goods inflation is very weak (-0.3%m/m/0.1%yr).
The emphasis of policymakers at the ECB and BoE remains on inflation over growth. GDP growth in year-ended terms to Q4 was 0.1% in the euro area and -0.2% in the UK. Growth has been on a similar trajectory in both economies, slowing materially over the past year as the recovery from the pandemic has given way to binding pressures on consumption from high inflation and rising interest rates. In the UK, 12-month headline and core inflation held 4% (vs 4.1% exp) and 5.1% (vs 5.2%) respectively in January. Inflation is well down from its peaks (11.1% headline and 7.1% core), progress welcomed by BoE Governor Bailey at the House of Lords; however, this came with the caveat that services prices (6.5%yr) and earnings growth (6.2%yr) remained inconsistent with a return to 2% inflation. Similarly, the ECB President Lagarde told the EU Parliament that wages growth was expected to "become an increasingly important driver of inflation dynamics in the coming quarters".
Seasonal volatility continues to cloud visibility over conditions in the Australian labour market. Employment failed to rebound from December's surprising decline (-62.7k) rising by just 0.5k in January, well below expectations for a 25k increase (full review here). With the participation rate steady (66.8%), the unemployment rate pushed up from 3.9% to 4.1%, a 2-year high.
My interpretation is that the weakness in December and January is overstated and will reverse over the coming months - the ABS highlighted more than 200k will enter new jobs from February - but if this doesn't come to fruition, then the risk is that the RBA is behind the curve having left its tightening bias in place after assessing the labour market as being tight and an excess of demand in the economy. The survey data published this week only added to the uncertainty. Consumer sentiment (Westpac-MI index) picked up sharply by over 6% in February, but the NAB Business Survey for January reported ongoing weakness in confidence and a softening in trading conditions.
