Signs that US growth has crossed an inflection point hit risk sentiment heavily this week. Markets are now anticipating a more frontloaded start to the Fed's easing cycle, reflected in the sharp movement lower in Treasury yields. This had spillover effects on yields in other countries; in Australia's case, the key Q2 CPI report was an additional factor as RBA hikes were priced out. A weaker US dollar in combination with the announcement of a 15bps rate hike from the Bank of Japan strengthened the yen significantly.
US labour market data for July missed expectations, putting a different complexion on the Fed's gradual approach to commencing its easing cycle. The Fed left rates unchanged (5.25-5.5%) but gave clear signals it will cut at the September meeting. From a position of being 'highly attentive to inflation risks', the decision statement was adjusted to note the Fed now acknowledges 'the risks to both sides of its dual mandate' for inflation and employment. In the post-meeting press conference, Chair Powell said the overheating it saw in the labour market had cooled and that the decline in inflation was now more broadly based across goods and more persistent services components, including housing.
Overall, the Fed meeting put added attention on the July employment report. In the event, nonfarm payrolls came in at 114k for July, well short of the 175k consensus figure and with -29k of backward revisions to the prior two months. With the participation rate moving a tick higher to 62.7%, the unemployment rate lifted from 4.1% to 4.3% (vs no change expected) to touch its highest level since October 2021. Meanwhile, growth in average hourly earnings eased from 3.9% to 3.6%yr, a more than 3-year low that is consistent with reduced labour market tightness.
The Bank of England has become the 5th G10 central bank now easing monetary policy. A shift in the vote pattern from the Monetary Policy Committee (MPC) swung the majority narrowly (5-4) in favour of a cut, lowering Bank Rate by 25bps to 5%. With headline CPI sitting at BoE's 2% target in May and June and rising confidence in its inflation forecasts, the decision statement noted that it was 'now appropriate to reduce slight the degree of policy restrictiveness'. However, given the finely balanced nature of the decision and the legacy of uncertainty of the past few years, the MPC steered clear from giving any forward guidance on rates.
In the post-meeting press conference, Governor Bailey said that the key for policy was how the incoming data informs the MPC's understanding of the outlook for inflation. It remains wary that services inflation and labour market tightness could see inflation remaining persistent. However, its base outlook in the August Monetary Policy Report is that under the market path for Bank Rate (factoring in more than 100bps of cuts over the next couple of years), inflation falls to 1.7% in 2026 and 1.5% in 2027. A similarly cautious tone accompanying a rate cut has also been the playbook from the European Central Bank. That was validated by upside surprises in the July inflation print, with the headline measure ticking up from 2.5% to 2.6%yr (vs 2.5%) and the core rate holding at a 2.9%yr pace (vs 2.8%).
Australia's CPI inflation outcomes for the June quarter were broadly in line with consensus and Reserve Bank of Australia forecasts, resulting in pricing for an RBA hike in August coming out of the market. Headline CPI was 1%q/q and 3.8%Y/Y, up from 3.6% in Q1; trimmed mean (or core CPI) was 0.8%q/q and 3.9%Y/Y, easing from 4% previously. The main takeaway from the report is that a hawkish revision to the RBA's forecast for a return to the midpoint of the 2-3% inflation target band in 2026 looks highly unlikely. That situation is set to see the Board remaining on hold at next week's meeting (4.35%), though the message around needing to remain vigilant to inflation risks will likely be retained. My detailed review of the CPI report can be accessed here. For those with AUD exposures, the activity data for June released this week may be of interest, including retail sales rising 0.5% (see here); dwelling approvals declining 6.5% (see here); the monthly trade surplus widening to $5.6bn (see here); and housing finance resuming its upswing with a 1.3% lift (see here).
