USD Lower Despite Fed Comments


The dollar was largely lower against both the G10 and EM currencies despite more hawkish comments from Fed officials and slightly higher rate expectations. Richmond Fed President Lacker said the Fed should raise rates in June, while Kansas City Fed President George said “the sooner we do it, the better.” These comments are even more specific than Fed Chair Yellen’s recent statement that a rate rise was likely “sometime this year.” Although the Fed funds rate expectations moved up a bit with these comments, the generally weak economic data – a weak Chicago PMI and poor figure on the labor market in the Conference Board consumer confidence survey — pushed Treasury yields lower and weakened the dollar. It’s hard to tell however whether the move was driven by the data or by the completion of the end-quarter buying that propelled the US currency higher on Monday. Today the market is likely to focus on the ADP report, which should help the dollar to recover its losses if it comes in as expected (see below).

China manufacturing PMI

China manufacturing PMI (just barely) back above 50 China’s official manufacturing PMI gained slightly in March to 50.1 from 49.9, beating expectations of a decline to 49.7 as it just barely poked its nose above the 50 boom-or-bust line. At the same time, the final HSBC/Markit PMI for the country was revised up slightly from the preliminary estimate, although it still remains in contractionary territory at 49.6. The figures may indicate some measure of success from the government’s stimulus measures, or perhaps just a rebound in activity after the Chinese New Year holiday. AUD rose sharply on the news but quickly lost all the gains. Nonetheless it remained slightly above yesterday morning’s level vs USD.

Perhaps more important than this monthly figure, China announced that it would insure bank deposits. This is a necessary step on the way to eliminating controls on interest rates and allowing more lenders to fail. While such steps will help to eliminate distortions in the economy and set growth on a more sustainable path in the long run, in the short run they mean more bankruptcies and economic turmoil as interest rates rise and companies surviving on negative real interest rates start having to earn a real return. This transition period towards a more balanced economic model is likely to be negative for AUD, in my view. (FYI iron ore for delivery in China fell further yesterday. It’s down almost 30% just this year. As for New Zealand, it remains to be seen what the impact of the end of EU quotas on milk production will be on the country’s exports to China. The long-standing quotas are being abolished as of today. It’s been reported that EU member states are planning production increases of as much as 20% to boost exports to Asia. This will compete directly with New Zealand. Milk and milk products accounted for 29% of its exports in 2014.


Tankan is disappointing Very disappointing Tankan! The Bank of Japan’s Q1 short-term survey of economic conditions was much weaker than expected. The index for the large manufacturers, the bellwether of the Japanese economy, was unchanged from Q4 and is expected to fall in Q2. Large non-manufacturers did slightly better as did small companies, but again their outlook is for a decline in Q2. A year after the hike in the consumption tax, confidence has yet to recover. Companies are now forecasting a cut in capital spending for the fiscal year, instead of a modest rise as expected. This may have something to do with the fact that they are assuming USD/JPY will average 111.81 in the new fiscal year that starts today. In any event, Japanese stocks fell on the news and USD/JPY moved down with them. The weekly correlation between Japanese stocks and USD/JPY recently hit the highest it’s been since at least 1980. This is somewhat counter-intuitive as a poor tankan figure like this suggests that the Bank of Japan may have to increase stimulus or try to weaken the yen further. I remain bullish on USD/JPY (i.e., bearish on the yen) as I expect the government will redouble its efforts to boost exports.

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