Debt ceiling negotiations stall as Biden attends G7 summit, resumes Monday. Fed chair Powell less hawkish than Fed colleagues, inflation still too high

By Stuart Talman, XE currency strategist

Debt ceiling negations stalled through Friday, negotiators at loggerheads whilst President Biden attended the G7 summit in Japan. Souring risk sentiment halted the three major US equity markets weekly ascent, although losses were modest, the Dow declining the most, around a third-of-a-percent. For the week the Nasdaq added over 3%, its best week since early March whilst the S&P500 logged a weekly gain of 1.65%.The Dow was the laggard, eking out a 0.38% gain.

Despite US bond yields climbing for a sixth consecutive day, the US dollar was weaker through Friday. The strongest amongst its G10 peers, the New Zealand dollar gained just shy of three-quarters-of-a-percent, breaking up through 0.6270 resistance to log Friday’s high a few pips north of 63 US cents.

For the week, the Kiwi was the notable over achiever, logging a weekly gain of 1.36%, quite some distance from the next best performer – the Canadian dollar gaining round a third-of-a-percent.

In a week devoid of domestic tier 1 macroeconomic data releases, it was hard to pinpoint the catalyst for the Kiwi’s outperformance.

Closing the week in the 0.6270’s, NZDUSD peeked above its 100-day moving average, ultimately closing in-line with the widely monitored trend following indicator. Should price action extend higher to consolidate above the 100-day MA during the first half of this week, the Kiwi sets up for another re-test of the recent prominent high near 0.6380.

Debt ceiling negotiations will be the key driver of short-term direction to start this week.

House Speaker Kevin McCarthy confirmed that talks will resume with President Biden on Monday following negotiators resuming on Sunday. McCarthy commented that he was more hopeful for a deal after speaking with Biden over the weekend.

Treasury Secretary Janet Yellen confirmed in a weekend interview that the chances the US government can pay its bills by mid-June are “quite low”.

To summarise the likely impact on the market this week……

A failure to make meaningful progress and/or agree on a deal – risk assets will get pummelled, the New Zealand dollar likely nosediving back through 62 US cents.

If a deal is done, US equities will spike higher, and whilst this may boost the Kiwi, the potential upside move will not be as pronounced as the downside.

In other news from Friday, Fed chair Powell’s participation in a panel discussion Perspectives on Monetary Policy was measurably balanced, providing arguments for both additional Fed tightening, and a cycle pause.

Whilst Powell kicked-off commenting that inflation is still far too high for comfort, warning of the dire consequences should they fail to return inflation to the 2% target, he later added that the policy rate may not have to rise as far as expected due to tighter lending conditions brought about by the stress in US regional banks.

In the wake of hawkish comments from several of his colleagues, Powell notably refrained from adding to favouring another hike at the 14 June FOMC meeting.

Having climbed near 40% earlier in the week, Fed Fund futures now assign a less than 20% chance the Fed lifts the target rate to 5.25% - 5.50%.

The May jobs report, released on 02 June and US CPI for May, released the day before the 14 June FOMC meeting, are the two critical data points that may dictate the outcome of 25bps vs on-hold.

Looking to the week ahead, Wednesday is the big day for local events: first quarter retail sales followed by the RBNZ’s interest rate decision.

The RBNZ is widely expected to hike by 25bps to 5.50%. The accompanying statement and Governor Orr’s presser will be scrutinised to determine if the RBNZ are nearing its own cycle pause.

A cycle peak of 5.5% or 5.75% is the popular pick amongst economists.

Its PMI week, S&P releasing the latest readings on manufacturing and services activity for the US, UK, eurozone and AUS economies. Whilst the manufacturing sectors of most developed nations have slipped into recessionary levels, the services sectors continue to show resiliency in the face of aggressive monetary tightening.

Aussie retail sales, Tokyo CPI, US weekly jobless claims and PCE are other data points of note that may influence short-term direction.

Will it be smooth sailing towards a YUS debt ceiling deal or will political brinkmanship fray the market’s nerves?

Newsflow suggests a deal will get done this week.

We look for the Kiwi to range between 0.6200 and 0.6350 this week.

Stuart Talman is Director of Sales at XE. You can contact him here.