Confronting the Final Stretch: Major Economies Grapple with Inflation Challenges"

PERSPECTIVE

Inflation heading for the ‘last mile’. Inflation figures out of major world economies in the past 2 weeks have showed price pressures easing back towards their 2% targets. Central bankers and economists have repeatedly warned, however, that the so called ‘last mile’ will be the trickiest part of the journey. This has largely been backed up by the revisions to central bank futures markets in recent months, where expectations of rate cuts have been pushed back several times. Labour markets have largely remained resilient despite a clear slowdown in economic activity, which makes the task of reducing inflation all the more difficult due to consumer spending power. Compared to the last major inflation cycle, major economies are far more services-based than goods-based, and it is services where inflation has proven the stickiest. As we head into several general elections worldwide in 2024, governments will certainly want inflation to fall in time for rate cuts to be appropriate prior to said elections. If inflation proves to be stubborn, the chances of recessions will increase as consumers are further squeezed by a combination of price pressures and borrowing costs - a scenario which is certainly not ideal for elected officials in Washington and throughout Europe.

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US DOLLAR

• In the past week, we saw the US Dollar index depreciate by 0.1% to end the week a touch under 103.9 against a trade-weighted basket of its peers, after an underwhelming week of data releases.
• A crucial piece of data released in the past week was the personal income print on Thursday which showed a 1% increase in January month on month, suggesting the labour market remains extremely tight. This, however, was teamed with a weaker than expected personal spending release at 0.2% as consumers begin to feel the crunch of rising prices and elevated borrowing costs.
• The main news of the week was the PCE Price Index, which is the metric the Federal Reserve uses for its inflation targets. The annualised core reading dropped in line with expectations to 2.8%, with the headline figure dropping to 2.4% against an expected 2.6%. It must be noted, however, that the monthly readings showed inflation rising month on month. Following the inflation figures, traders still expect 3-4 interest rate cuts this year with a first cut not fully priced in until July.
• Other data throughout the week suggested the economy is experiencing further signs of a slowdown. Manufacturing data showed a 16th consecutive monthly contraction in activity, durable goods orders slumped by 6.1% month on month and there was a downward revision to the bumper Q4 GDP Growth print.
• Labour data out of the US in the week ahead will likely cause volatility in the dollar as we head into the next FED meeting later this month. Weaker than expected labour data would likely cause a selloff in the dollar. If the data remains strong, however, we will see the reverse scenario.

ASIA-PACIFIC

• In China, we saw the Renminbi hold steady at 7.198 against USD largely thanks to PBoC currency fixing, similar to recent weeks. The official NBS Manufacturing PMI in China edged down to 49.1 in February 2024 from 49.2 in the previous month, in line with market forecasts. It was the fifth straight month of contraction in factory activity, amid the impact of the week-long Lunar New Year break as most factories were closed or slowed their operations. Other than that, there was little to report out of China last week; inflation figures released this week are expected to show an uptick following increased consumer spending during the holiday period.
• The upcoming meeting of the National People’s Congress in China is widely expected to yield insights on the direction of policy in response to recent economic turbulence. The debate amongst market watchers is between those who expect an economic growth target close to 5% and an increase in fiscal stimulus, with the government deficit rising above 3.8% (the current forecast) to create demand to hit this target amidst economic headwinds, versus those who expect a lower growth target and little or no extra stimulus. Xi Jinping is known to highlight the drawbacks of stimulus measures. If the outcome is a lower growth target and little extra stimulus, it will puncture the expectations of market participants who believe that China always stimulates when faced with problems in its economy and may therefore create waves in the market.
• The Yen strengthened by 0.25% against USD last week to end the week trading at 150. Inflation data on Tuesday came in at 2.2% for the headline reading with core at 2%. The Bank of Japan’s Governor, Kazuo Ueda, indicated that inflation in the country is falling rapidly, and that the sustainability of the price goal is not yet in sight. Ueda's dovish remarks indicate that policymakers remain hesitant to pull the trigger and finally abandon negative borrowing costs, reducing the likelihood of a surprise rate hike at the BoJ's March meeting. With the prospect of FED rate cuts being pushed back, it seems the only near-term path to JPY strength would be a BoJ intervention directly in the currency markets.
• The Australian Dollar weakened against its US counterpart last week, ending the week trading 0.5% weaker at 0.652. A miss in retail sales along with yet more contraction in manufacturing and commodity prices caused a sell off in the Aussie Dollar. China’s economic recovery is unfolding extremely slowly, which is doing little to help the weakening Australian economy. Growth and trade data this week will give a good indication on overall business activity out of the Australian economy as we head towards the second quarter of the year.

SOUTH ASIA

• INR strengthened, once again, last week by 0.1% to end the week trading at 82.8 against USD. The major news out of India last week was the huge upside surprise in Q4 GDP Growth at 8.4% against 7% expected. The Rupee looks set to continue its strong start to the year, being one of the few global currencies to have strengthened against the US Dollar year to date.
• PKR ended the week trading flat against USD a touch below 280. There was a welcome dip in inflation which was flat for the month of February, with the annualised figure at 23.1% against 26% expected. Shabaz Sharif is expected to be confirmed as the new Prime Minister, which may well lead to further domestic instability following a controversial election in February. The incoming PM has a big job on their hands to ensure Pakistan doesn’t default on its upcoming loan repayments in 2024.?

MIDDLE EAST AND AFRICA

• The Nigerian Naira dropped to 1550 against USD last week as new reforms by the central bank continue to cause volatility in the currency. For the first time since the pandemic, the parallel market now trades at a stronger rate than official markets as the government attempts to fulfil its election promise of unifying the two rates. To help support the more freely floating currency, the central bank raised interest rates to 22.75% on Tuesday, which will certainly influence cross-border capital flows but is likely to hurt the domestic economy. In other news, the government has detained Binance executives in Nigeria and directly blamed them for the collapse of the Naira. The government has ordered the cryptocurrency firm to pay $10bn in restitution after it accused Binance of blatantly manipulating the parallel market rate and moving over $25bn worth of untraceable funds out of the struggling economy.
• The Kenyan Shilling traded flat last week at 145 against the US Dollar as it holds onto its gains in 2024. The weaker than expected inflation print on Thursday arrested the recent momentum of the Shilling, but overall the picture remains positive after the government recently settled its US Dollar debt obligations.
• South African Rand ended the week trading 1.5% weaker against USD at 19.1. Producer price inflation and trade data came in softer than expected last week and the ongoing volatility in market expectations around US interest rate cuts has led to marked weakness in the currency. The Rand has also suffered from political risk ahead of national elections in May and negative sentiment following the annual budget speech the week prior.

EUROPE

• GBP ended the week trading a touch below 1.27 against USD, representing a weekly decline of 0.2%. There weas little in the way of market-moving data releases last week out of the UK. The first annualised increase in house prices in 12 months was particularly eye catching as the decline in borrowing costs has helped to ease pressure on household budgets, but it did not cause a big swing in the currency. The exchange rate will likely be determined by the strength of US labour data in the coming week in another light week of data for the UK economy.
• The Euro ended the week trading against USD at 1.085, after a second consecutive week of appreciation. The major data release of the week was the preliminary inflation reading for February. The core figure came in at 3.1% against 2.9% expected with headline inflation dropping to 2.6% against an expected 2.5% on an annualised basis. Both readings being above expectations caused the Euro to rally on Friday, due to the implication of a slightly tighter monetary policy. Persistent sticky service prices are proving to be a headache for the ECB as they struggle to bring inflation back to their 2% target. Economic data has notably softened in the past 12 months leading for calls to interest rate cuts. The ECB has repeatedly stated this will not happen, however, until inflation is under control. The ECB meeting this week will be crucial to determine the direction of the Euro until their next meeting in May, where a rate cut is currently considered more likely than not by markets. For this week’s meeting a rate hold is currently priced in.

OTHER NEWS

• Zimbabwe’s inflation rate jumped to its highest level in six months as the local dollar continued its losing streak against the US Dollar, in one of its worst starts to the year since the currency’s reintroduction in 2019. Annual inflation surged to 47.6% in February from 34.8% a month before, the Zimbabwe National Statistics Agency said Thursday in an online briefing. Consumer prices rose 5.4% in the month from 6.6% in January.
• Bitcoin surpassed $60,000 following the arrival of bitcoin exchange traded funds in January. The previous November 2021 record of $69,000 is now in sight for the flagship cryptocurrency, opening the door to a new wave of crypto hype.
• Global stock markets have surged ahead, with the S&P500, Nikkei 225, European STOXX600 and MSCI global index all setting records in the first two months of 2024. Strong expectations for firms and sectors exposed to Artificial Intelligence (AI) are partly the cause, but plenty of analysts have questioned whether these levels are sustainable given global challenges. In any case, projecting a repeat of the spectacular stock index returns achieved since 2010 would require heroic assumptions. If stock markets to correct, look out for corresponding turbulence in currencies.

PERFORMANCES AGAINST US DOLLAR

THE WEEK AHEAD