Global Economics & Market Strategy

Economics Weekly View: Three Reasons Why Being On FFR Cut Wagon Is A Bad Idea

17 May 2024
 

Barnabas Gan Acting Group Chief Economist & Head, Market Research

• We recognise three factors that suggest market watchers may have been too quick to jump on the FFR cut wagon. Recent data indicates that US inflation stays sticky for the remainder of 2Q24, which could persist into 2H24. We see no impetus for the US Federal Reserve to surprise with an earlier-than-expected cut against our Dec FFR cut base case assumption; (1) US headline inflation, while it has been within market consensus, is still too high for comfort and threatens a year-end price pressure of above 3.0%. Furthermore, (2) US core PCE inflation may see upside bias, especially from last night’s unexpected surge in US import prices. US import prices traditionally lead US core PCE inflation by two to three months (see Figures 39 & 40) surged 1.1% YoY in April, against market consensus of 0.4% YoY, with sequential growth coming in hot at +0.9% MoM. Lastly, (3) recent Fedspeak continues its high-for-longer rhetoric -  Cleveland Fed President Loretta Mester, New York Fed President John Williams and Richmond Fed President Thomas Barkin argued it may take longer for inflation to reach the Fed’s 2% target.
   
• Regarding the aforementioned three reasons, our view for only one FFR cut by end-year remains unchanged, with the balance of risks magnified towards no rate cuts. We continue to think that market pricing return to two rate cuts is too myopic and likely to be repriced back to one-to-zero rate cuts by the end of the year when the market realises that global inflation is here to stay. We remain of the view for US core PCE inflation to see a risk of being entrenched around the 3.0% handle in 2H24, on the assumption that inflation momentum continues to trend at current levels in the year ahead, with higher commodity prices (energy, food, metals) to materialise (See Figure 27). 
   
• On the implications on DXY and UST 10Y yields, however, we recognise that technical indicators dominate for now, with market watchers likely to dwell on recent tame US inflation prints. DXY will likely range trade around 103 – 105 in the coming week, although our quarter-end target for DXY to approach 110 remains intact. For our technical views on the DXY, please read our FX daily report (17 May 2024). Market watchers quickly returned to being indecisive over Sept FFR cuts, with swap pricing pencilling only a 54% chance for a 25bps reduction, likely as a reaction to the recent Fedspeak and higher-than-expected US import prices. For UST 10Y yields, further pricing in FFR cuts in September will continue to depress yields. Still, we note that CFTC net-short positions (Figure 9) remain very elevated, suggesting that some yield stickiness may play out in the immediate term ahead, with our end-2Q24 forecast to see 10Y yields at 4.5 – 4.8%. 
   
• On China, we see further signs of economic strength in April, after the initial softness in 1Q24, given seasonal factors (see Figures 29 – 33). China’s externally-facing industries have continued to recover further, with IPI and manufacturing PMI readings turning north after the initial softness in early 1Q24. Consumer confidence has remained relatively unchanged, but real urban disposable income per capita has continued to climb in 1Q24, suggesting that improved domestic indicators have primarily benefited the real economy. Similarly, commodity consumption has been supported, a leading sign that China’s growth patterns remain resilient, albeit likely to also inject global price inflation. We are also seeing very early signs that property price momentum will bottom, albeit we think it is too early to tell if this will persist. 
   

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