US, UK and Euro area might avoid or skirt recession, pricing indicators still too high for comfort, NZ$ & interest rates lower

By Jason Wong*

Friday was an uneventful trading day. Strong Performance of Manufacturing Index (PMI) data on Friday night pushed global rates modestly higher. The US dollar (USD) was flat but commodity currencies underperformed, seeing the New Zealand dollar (NZD) close the week around US61.40 cents and the (Australian dollar (AUD) below US67c.

Strong global PMI data on Friday reinforced market views of further policy tightening ahead for the Federal Reserve, European Central Bank and Bank of England, pushing global rates modestly higher. US Treasury yields ended the day four basis points (bps) higher right across the curve, taking the 10-year rate up to 3.57%, and marking the end of an uneventful week that saw less volatility in rates than seen since early March. German rates saw a similar move across the curve.

PMI data showed increasing growth momentum for services sectors across the Euro area, UK and US and deeper growth contractions for the manufacturing sector for the regions noted apart from the US. With the services sector a larger part of the economy, composite indices improved across the board, signalling overall improved growth momentum in April. Composite indices for the Euro area, UK and US rose to their highest level in 11-12 months. The data suggest that the UK and Euro area might have skirted recession and raise a question whether the US economy will even get close to recession, despite a range of other indicators giving a clear signal of recessionary forces.

The surveys showed pricing indicators still too high for comfort. For the US, the commentary noted the upturn in demand had also been accompanied by a rekindling of price pressures, with businesses passing on higher costs to customers. A 25bps hike from the Fed early next month remains well priced, with the market seeing that as the likely final hike for the cycle. A 25bps hike from the ECB early next month is priced as a given, with some chance of a greater 50bps hike priced in. Same goes for the BoE, although with deeper conviction that 25bps is most likely.

UK retail sales volumes excluding auto fuel were weaker than expected in March, dropping 1.0% month-on-month with wet weather said by the statistics office to take the blame. However, the strength in January and February meant that sales for the first quarter (Q1) overall gained 0.6% quarter-on-quarter, the first three-monthly increase since August 2021. A separate survey showed UK consumer confidence rising to its highest level in a year.

Japan Consumer Price Index (CPI) inflation continues to steam ahead at a faster pace than expected, with the core rate (excluding fresh food and energy) up to 3.8%, its highest level since 1981. The headline rate nudged down to 3.2% and has been above the Bank of Japan’s 2% target now for 12 consecutive months. With the Bank of Japan forecasting inflation falling back below 2% later this year, the Bank has been in no mood to step away from its ultra-easy policy stance. Newly appointed Governor Ueda presides over his first policy meeting later this week and isn’t expected to adjust the policy stance. But over coming months, there will be rising pressure to abandon or modify its yield curve control policy, which continues to look well past its use-by date.

Fed data showed a small increase in liquidity demand from trading banks, breaking a run of weekly declines, with outstanding borrowing from the traditional discount window up $2 billion to $70b and borrowing from the new Bank Term Fund Programme up $2b to $74b. While the acute phase of the banking sector turmoil is over, there clearly remains some lingering pressures. The KBW Nasdaq banking index fell 1.5% on Friday, with weaker than expected earnings reports dragging down a few mid-sized banking stocks by 5% to 6%. The S&P500 nudged up 0.1%, with the week marked by low volatility and a 0.1% decline.

In currency markets, net movements were modest on Friday night and the key USD indices were little changed for the day, but commodity currencies added to their weakness during the NZ trading session and were notable underperformers. The NZD closed the week around 0.6140, taking its fall for the week to just over 1% and down on most of the crosses by a similar amount, a reflection of the big downside miss for the CPI earlier in the week. The AUD finished the week just below 0.67, with NZD/AUD around 0.9170. The Canadian dollar was the weakest of the majors for the week, not helped by the near 6% fall in West Texas Intermediate (WTI) oil prices.

NZD/Euro traded at a fresh 2½-year low of 0.5580, while NZD/British pound fell to 0.4930, just above its October 2022 low.

NZ interest rates continued to fall in the aftermath of the large downside miss to NZ’s CPI, with some global tailwinds supporting the move. Overnight indexed swaps (OIS) pricing for the May meeting nudged down to 5.45%, little changed for the week but down from the 5.49% level prevailing just before the CPI release. The two-year swap rate fell 11bps to 5.02%, also leaving the rate unchanged from a week ago, but down from the intra-week peak of 5.26%. The 10-year swap rate fell 9bps to 4.22%. NZ government bonds showed similar moves on the day, with some evident outperformance against US and Australia.

The economic calendar starts off light but gets heavier and more interesting later in the week. Germany’s IFO business climate survey is tonight and US new home sales and the Conference Board consumer confidence index come just after the ANZAC day holiday. The key domestic release this week is the ANZ business outlook survey. Key global releases include the Australian CPI, US and Euro area first quarter GDP, the US employment cost index and personal consumption expenditures (PCE) deflators, and the Bank of Japan meeting.

The easiest place to stay up to date with economic events is by following our Economic Calendar here ».

*Jason Wong is BNZ's senior markets strategist. David Chaston is away this week.