Overview
The new week, which features the BRICS meeting and the Jackson Hole symposium, is off to a quiet start. The failure of Chinese banks to pass through last week’s 15 bp cut fully into the lending prime rates was a major disappointment, and the logic is not yet clear. The yuan and yen are softer, as are more local Asian currencies, while most of the G10 currencies are posting small gains against the greenback. Gold is trading little changed after falling for extending its losing streak for the fourth consecutive week.
Asia-Pacific equities were mixed. Japan and South Korea, whose officials met with US President Biden at the end of last week, saw gains in equities, while China and Hong Kong saw declines. Europe’s STOXX 600 is snapping a four-day slide and is up about 0.8% in late morning turnover. US index futures are posting modest gains. The adjustment of long-term interest rates continues. Most European 10-year yields are 2-3 bp higher, with flat Gilts and Swiss bonds being the exception. The 10-year US Treasury yield is up nearly four basis points to knock on 4.30%. The 10-year Chinese government bond yield slipped below 2.54%, a new low. September WTI is extending the recovery from the slide that took it from around $85 (August 10) to $78.95 (August 17). It reached $82.15 today, roughly a 50% retracement. Lastly, we note that the threat of an Australian strike is helping lift European natural gas prices. Since the end of July, the Dutch benchmark has risen by nearly 50%, even though European inventories are running well ahead of schedule.
Asia-Pacific
China surprised. Following last week’s 15 bp cut in the benchmark one-year Medium-Term Lending rate, it seems obvious that the 18 banks that set the loan prime rate would pass through the 15 bp cut in the one- and five-rate rates. They did not. The one-year loan prime rate was reduced by 10 bp (to 3.45%) and the five-year loan prime rate was held steady (4.2%). The market is confused. One set of interpretations is that Beijing is caught between trying to provide economic stimulus and not wanting to squeeze banks through lower interest rate margins. Another set of interpretations center around the possibility that more direct aid to the property sector will be forthcoming. Still, the divergence between the medium-term lending facility (MLF) and the loan prime rates is not unprecedented. Last August, the MLF was cut by 10 bp but the one-year loan prime rate was cut by only five basis points and the five-year loan prime rate was cut by 15 bp.
The dollar peaked last Thursday near JPY146.55 and, before the weekend, flirted with JPY145.00. It settled below the five-day moving average for the first time since August 7. The dollar is holding above JPY145.15 today and tested last Friday’s North American high near JPY145.80 in the European morning. A push above there could see JPY146.20-40. Still, the intrasession momentum indicators are stretched, and initial support may be in the JPY145.20 area. The JPY144.65 area is a (38.2%) retracement of the leg up since the August 7 low (~JPY141.50). The Australian dollar has fallen for eight of the past ten sessions and has not had a winning week since mid-July (five weeks). It bottomed last Thursday as well, and the range that day (~$0.6365-0.6450) still dominates. It also has not closed above its five-day moving average since August 7 and is found near $0.6420 today. Even if there is some intraday penetration, the Aussie needs to close above to stabilize the technical tone. If the Chinese yuan were a freely traded currency, we would note the potential key reversal last Thursday. The dollar had gapped higher to a new high for the year, then reversed lower and closed below the previous session’s low. The following day, press reports said officials wanted the state banks to boost their dollar sales. That this rumored discrete practice made it into the public space, we suspect, was no accident or fluke. The dollar has not closed below its five-day moving average against the yuan since August 4. It is found near CNY7.2915 today. Still, after the disappointment with the loan prime rates and the pullback in the yen, the Chinese yuan is softer. The dollar approached but held below last week’s high near CNY7.3175. The PBOC set the dollar’s reference rate at CNY7.1987. The average of nine forecast in Bloomberg’s survey was for CNY7.2867.
Europe
Last week, the German government indicated it was on track to adopt the global minimum tax by the end of the year, as required by the EU. The finance ministry estimates that the OECD-led tax reform could be worth between 1.9 billion and 2.2 billion euros a year in 2024-2026. The report recognizes the cat-and-mouse nature of corporate tax regimes and warned that the revenue could be lower if multinational companies restructure to no longer be subject to the minimum tax. While the Biden administration helped negotiate the global deal, it hangs like a chad on an old ballot. It is not just that Congress has not taken any action yet, but there is active opposition. The US corporate tax schedule rate is 21%, but the 15% minimum tax applies to the profit that is recorded on the financial statements, which is often different than taxable income. Unless legislation is taken, there may be two economic consequences. First, foreign countries may levy a tax on US companies that qualify for the reform but underpay in the US. This could make for some tense confrontations and works against efforts to enhance cooperation. Second, it may lower US tax revenues as foreign tax payments increase. This is especially unhelpful given the fiscal state.
The euro recorded a low ahead of the weekend near $1.0845, a little ahead of last month’s low (~$1.0835). It consolidated and managed to eke out the smallest of gains to snap a five-day fall before the weekend. Moreover, of the past six sessions, the euro has held risen above Friday’s high (~$1.0895). The euro rose through a little through $1.09, where there are options for nearly 1.8 billion euros that expire today. The five-day moving average is near $1.0885, and the euro has not closed above it since August 7. Sterling tested the upper end of its $1.26-1.28 range last week, but the broad resilience of the dollar helped it hold. It pulled back to about $1.2690 before consolidating ahead of the weekend. It is in a narrow range to start the week (~$1.2710-1.2750) inside last Friday’s range. A close above the 20-day moving average (~$1.2760), which sterling has not managed to do since July 26, might signal another attempt at the top of the range.
America
Something has to give. On the one hand, there is the string of strong US economic data. Even if the Atlanta Fed’s GDP tracker looking for 5.8% as of August 16 for Q3 growth is 50% too high, which seems like a large discount, then Q3 GDP would still be better than Q1 and Q2. On the other hand, the futures market implies about a 10% chance of a September rate hike. Now that the Fed has policy in restrictive territory and inflation is trending lower, there may be little interest in back-to-back hikes. Since the Fed hiked in July, they can afford to wait six weeks until the November 1 meeting. This is where to look for a resolution of the apparent contradiction. The futures market implies about a 33% chance of a hike then, while a survey by Action Economics found nearly half of the economists also expect a hike.
The US dollar rose to a new two-month high against the Canadian dollar around CAD1.3575 at the end of last week. This met the (61.8%) retracement of the pullback after recording the year’s high on March 10 (~CAD1.3860). The US dollar is trading lower and has taken out the previous session’s low for the first time since August 10. The greenback has not closed below its five-day moving average this month (14 sessions). It is near CAD1.3530 today. There are options for almost $480 million that expire today at CAD1.3510. In the face of the dollar’s broad rally, the Mexican peso has largely held its own. The greenback finished Q2 near MXN17.1250 and settled last week around MXN17.0560. It is one of the few currencies that can boast of a small gain here in Q3. It is flat so far to start the week. The dollar slipped to MXN17.0180 and has held below MXN17.0680. Last week’s high was around MXN17.2080.
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