Last week’s focus remained on key U.S. economic releases and trade talk. U.S. inflation rose nearly 3% in June, relative to a year ago. Trade rhetoric continued with President Trump threatening additional tariffs on Chinese goods, which could directly impact American consumers from a pricing perspective.
Higher prices will continue if the trade war escalates between the U.S. and many of its trading partners. This translates to higher inflation that will then likely further fuel the Fed’s path to rate hikes. Fed Official Charles Evans noted last week his comfort in raising interest rates on the back of higher inflation and not letting the economy overheat. Evans dissented to raise hikes last December given then weak inflation readings and now expects one to two more hikes this year. Similarly, Fed Official Patrick Harker noted the potential of four rate hikes (his base case is three for 2018) on the back of inflation picking up.
All eyes on Fed Chair Jerome Powell this week when he presents the semiannual monetary policy report to Congress on Tuesday and Wednesday. Details of the report released on Friday expressed solid economic growth in the U.S. and a continued gradual path of rate hikes. The Trump Administration’s tax cuts will likely serve as a boon to GDP for the next few years. Other notable takeaways from the report included: 1) weaker-than-expected wage growth and 2) uncertainty surrounding the potential impact of Trump’s trade policies.
Despite dipping on trade tensions earlier in the week stock indices ended the week higher with the S&P 500 trading at 2,800 and ten-year Treasury yields falling a few basis points hovering around 2.833% at the time of this writing.
I. U.S. Economic Data
- June Inflation – the Consumer Price Index increased 2.9% for the 12 months ending through June, the biggest gain since February 2012.
- Core inflation (ex-food and energy) increased by 2.3%, the highest level since January 2017.
- Moreover, for the second consecutive month, annual inflation offset recent wage gains. This could potentially hurt U.S. growth, namely consumption, which comprises about two-thirds of GDP.
- Weekly jobless claims hit a two-month low, indicating that U.S. labor markets remain robust.
II. China/U.S. Trade War: the Trump Administration announced additional potential tariffs of about 10% on $200 billion of Chinese goods, such as handbags and TVs, that would directly impact the American consumer. Some economists expect that such levies could drive CPI higher by about 0.6%. The Dow Jones Industrial Average dropped nearly 200 points the day after the potential levies were announced. The Yuan continued its decline against the USD, depreciating nearly 3% since the beginning of the year.
- While China vowed to retaliate, how they may respond hangs over the market. Outside of imposing tariffs, China could place restrictions on U.S. companies doing business in the country. American firms have far more exposure in China in terms of operations, than Chinese companies do in the U.S.
- Escalating tariffs could cause inflation to rise further, where higher prices could also threaten business confidence (as supply chains are impacted) and consumer spending- trends market practitioners will be watching closely.
Bank of Canada: As widely expected the BoC raised its benchmark rate to 1.5%. Stronger economic data, in particular, lower unemployment and rising inflation drove the committee’s decision. BoC Gov. Stephen Poloz noted how higher rates will be warranted, despite the bank’s gradual approach to rate hikes, at the press conference post meeting. Escalating trade tensions were also discussed – while, the initial tariffs implemented are fairly benign to the economy, U.S. levies on auto Canadian imports could have a more damaging effect to the economy. Other key takeaways included:
- BoC expects an average economic growth of about 2% over the next three years (ending in 2020).
- The impact of current tariffs and unexpected trade policies could push GDP lower by about 0.67% by the end of 2020.
- Household debt-to-income ratios lowered, while credit growth moderated.
- Canada has benefitted from a pick-up both in energy prices and rebound in oil exports.
- Given the economic backdrop and Poloz/s relative bullish stance, we currently expect at least one more rate hike by the BoC by year-end. However, as Canada benefits from a stronger U.S. economy, trade tensions aside (notably, a big “aside”), if the U.S. economy continues to flourish, we would expect perhaps two more BoC rate hikes by year-end.
Brexit: Britain’s foreign secretary Boris Johnson resigned earlier in the week, following Brexit minister, David Davis’ departure the previous weekend. The resignation comes after Prime Minister Theresa May secured an EU exit strategy from senior British officials. Johnson was known for his pro-Brexit rhetoric.
- Earlier in the week, President Trump further perturbed the markets when he expressed PM May’s softer approach to exiting the EU could hurt U.K.’s trade relations with the U.S. However, at a joint press conference on Friday, the two leaders expressed a willingness to work towards a U.S./U.K. trade agreement once the U.K. leaves the EU.
The week kicks off with highly anticipated economic releases including second-quarter Chinese GDP data and June retail sales data in the U.S. With better than expected CPI data released last week, stronger retail sales will underlie an overheating U.S. economy and path to higher rates. Other key data/events include:
- CNY 2Q GDP (Monday)
- US June retail sales (Monday)
- Trump/Putin meeting (Monday)
- Fed Chair Jerome Powell’s Semi-annual Monetary Policy Report (Tuesday-Wednesday)
- EUR and GBP CPI (Wednesday)
- Fed’s Beige Book (Wednesday)
- AUD unemployment (Thursday)
- CAD retail sales (Friday)
- BoC CPI (Friday)
- OPEC meeting (Friday)
U.S. Economic Data includes:
June retail sales (and retail sales ex-autos) (Monday), June industrial production, capacity utilization, NAHB housing market index, total net TIC flows, API crude oil stock, housing starts (Wednesday), building permits, Fed’s Beige Book, weekly jobless claims (Thursday), Philadelphia Fed manufacturing survey, Baker Hughes oil count (Friday).
Overseas Economic Data includes: CNY retail sales (Monday), CNY industrial production, CNY 2Q GDP, NZD 2Q GDP, AUD RBA minutes (Tuesday), GBP average earnings, GBP ILO unemployment, NZD GDT price index, GBP retail price index (Wednesday), GBP PPI, EUR EcoFin meeting, GBP CPI, EUR CPI, JPY trade data, AUD unemployment data (Thursday), GBP retail sales, JPY CPI, JPY foreign investment in stock/bond, All industry activity index (Friday), EUR current account, CAD retail sales, CAD CPI and BoC CPI.