Global equity sentiment rebounded driving strong weekly gains for indices across the US, Europe and Asia following recent declines. This gave a lift to a range of currencies against the US dollar, including the Australian dollar which posted its strongest week gain to the USD this year, with a hawkish repricing of the RBA rates outlook on the back of stronger-than-expected Q1 CPI data also a factor. Notwithstanding the broader weakness, the USD closed the week through 158 to the Japanese Yen - a new 34-year high - after the Bank of Japan was seen as showing little urgency at this week's meeting to respond to a weaker currency despite this contributing to upward revisions to the domestic inflation outlook.
Elevated US inflation data on the eve of the next week's Fed meeting has further pushed back expectations for rate cuts this year. The 3 rate cuts signalled by the Committee for 2024 back at the March meeting now compares with market pricing for a single cut late in the year. Although there were some softer signals from a US growth perspective this week: Q1 GDP came in well below estimates slowing to 0.4% quarter-on-quarter (3% year-ended) and the April PMI showed a lacklustre 50.9 reading, there were still signs of an economy with underlying strength. Most notably, much of the weakness in Q1 GDP was attributable to trade and inventories - both volatile components - while domestic demand advanced solidly at 0.7%q/q (2.9%Y/Y), with real household consumption rising at a 0.6%q/q pace (2.4%Y/Y). However, economic resilience is contributing to a continuation of above target inflation; the Fed's preferred core PCE deflator printed at 0.3% month-on-month in March, leaving the annual rate still some way adrift from the 2% target at an unchanged 2.8%.
Growth in the euro area and UK showed signs of rebounding early in Q2 following lengthy periods of stagnation. April's PMI readings lifted in both economies: euro area 51.4 from 50.3 and UK 54.0 from 52.8, indicating economic growth was expanding at its fastest pace since May last year. The acceleration in activity was driven by the services sector, with new orders expanding and hiring increasing. However, the downside is that robust labour markets appear to be underpinning elevated cost pressures. Meanwhile, the manufacturing sector remains a headwind to growth in both economies; activity in the sector declined for the 13th consecutive month in the euro area and slipped back to a 2-month low in the UK after edging into positive territory in March. The data gave support to the Euro but expectations remain firmly anchored for a June ECB rate cut. In the UK, comments from Bank of England Chief Economist Huw Pill expressed a more cautionary view around cutting rates than outlined by other policymakers (Bailey and Ramsden) last week.
March quarter inflation in Australia surprised on the upside of expectations, prompting markets to remove the RBA rate cut that was priced in for later in the year. Headline CPI was 1% in the quarter (vs 0.8% forecast), up from 0.6% in Q4, with the annual pace slowing from 4.1% to 3.6%. Price increases in a range of non-discretionary areas including education, health care, rents and insurance drove an uplift in services prices in the quarter (1.4%), the main impulse behind the stronger headline inflation outcome. As a result, the core (trimmed mean) rate also came in strong relative to expectations at 1%q/q and 4%Y/Y, down from 4.2% previously. The RBA's current forecast track - due to be updated at the next meeting in early May - has the core rate declining to 3.6% by the middle of the year and then to 3.1% by year-end. Overall, my view is that the report is unlikely to have major RBA policy implications due to the overall disinflationary process still being intact. The Board has already been notably reluctant to endorse pricing for rate cuts and it has pointed out that, similar to overseas, returning inflation to target is unlikely to be smooth in Australia. For more analysis, please see my review of the CPI report here.