Dollar Soft, AUD Shines on Hawkish RBA Hold

• Markets should take note of the growing assertiveness of the Fed hawks; July ISM manufacturing PMI came slightly softer than expected; Colombia central bank minutes will be released
  
• Details of ECB asset purchases for the week ending July 30 will be reported; Turkey reported higher than expected July CPI
  
• July Tokyo CPI data was mixed; RBA delivered a hawkish surprise; Korea reported higher than expected July CPI data

The dollar remains under modest pressure. After recouping some of its recent losses Friday, DXY is down two straight days and trading below 92. However, the euro is still struggling to break above $1.19 while sterling remains stuck near $1.39. With risk on sentiment in place, the drop in USD/JPY is a bit confounding. The pair is trading at the lowest since July 19 and is about to test that intra-day low near 109.05. A break below would set up a test of the April 23 low near 107.50. While we remain positive on the dollar, we acknowledge that the rally is unlikely to resume in force until a more hawkish Fed narrative takes hold.

AMERICAS

FX markets are sending conflicting signals today. USD/JPY and EUR/CHF are lower, suggesting some flight to quality. Yet EM currencies are higher, as are global equity markets. Markets are searching for the true signal within all this noise. For us, the signal is that much of the world's developed economies are well-positioned for the spread of the delta variant. In particular, the U.S. outlook remains strong and this will lead to outperformance of the economy and the dollar in H2. Yes, some DM countries are facing stronger headwinds due to their lagging vaccination programs. However, this is seen as a temporary hiccup (see RBA decision below). Much of EM is also lagging in terms of vaccinations and so we see growing divergences between DM and EM. We also see growing divergences within EM. This is the major theme that we explore in our most recent FX quarterly.

Markets should take note of the growing assertiveness of the Fed hawks. Despite Powell's dovish press conference, tapering still seems likely to come sooner rather than later. Last week, Bullard took this stance. This week, Bullard's former colleague at the St. Louis Fed and current Governor Waller joined him by saying he could see a tapering announcement by September and commencement by October. Waller said the delta variant shouldn't 'sideline' the economy but that this timeline is contingent on two more strong jobs reports. He stressed that 'We should go early and fast, in order to make sure we're in a position to hike rates in 2022, if we have to.' We think this is the first time for this cycle that any Fed official has called for a hike and it's clear that Bullard and Waller (along with Kaplan and Evans) are forming a hawkish core at the FOMC. Bowman speaks today.

July ISM manufacturing PMI came slightly softer than expected. Headline was 59.5 vs. 60.9 expected and 60.6 in June. A reading above 60 is typically rare and yet this is the first sub-60 number since January. Details were good, with employment component of 52.9 now back above 50 and prices paid falling to 85.7 from 92.1 in June. Bottom line: the US manufacturing sector remains in very good shape. Services PMI will be reported Wednesday and is expected at 60.5 vs. 60.1 in June. Virtually all of the major US PMI readings remain at historically high levels at or above 60, signifying continued strength in the economy. June factory orders (1.0% m/m expected) and July auto sales (15.25 mln annual rate expected) will be reported today. North of the border, Canada reports July Markit manufacturing PMI. The more widely followed July Ivey PMI will be reported Friday.

Colombia central bank minutes will be released. The bank just delivered a hawkish hold last Friday, with 2 voting to hike rates 25 bp. The bank noted 'The members of the board considered that the space for continuing the current level of monetary stimulus is narrowing, given the behavior of inflation and its possible persistence, as well as the upward revision of growth forecasts.' Colombia reports July CPI Thursday. Headline inflation is expected at 3.77% y/y vs. 3.63% in June. If so, it would be the highest since March 2020 and nearing the top of the 2-4% target range. Next policy meeting is September 30 and the tightening cycle is expected to begin with a 25 bp hike to 2.0%. Bloomberg consensus then sees 1 more hike in Q4, followed by 3 hikes in H1 and 2 hikes in H2 that would take the policy rate to 3.5% by end-2022.

EUROPE/MIDDLE EAST/AFRICA

Details of ECB asset purchases for the week ending July 30 will be reported. Net purchases were reported yesterday at only EUR10.7 bln vs. EUR22.8 bln for the week ending July 23 and EUR22.1 bln in each of the weeks ending July 16 and July 9. Redemptions and gross purchases will be reported today. The ECB has been aiming for net weekly purchases of around EUR20 bln since the accelerated pace began in March, but there have been a couple of outliers on both sides. The bank is expected to discuss changes to its asset purchases at the next meeting September 9 but a consensus may not be reached until the December meeting.

Turkey reported higher than expected July CPI. Headline inflation rose 18.95% y/y vs. 18.60% expected and 17.53% in June. This is the highest since April 2019 and further above the 3-7% target range. Of note, PPI accelerated an astounding 44.92% y/y, suggesting upside risks for CPI in the coming months. Next policy meeting is August 12 and rates are expected to remain steady at 19.0%. Rates have been kept steady since the last 200 bp hike back in March 2021. While President Erdogan has been clamoring for rate cuts, persistently high inflation suggests rates will remain at current levels well into the autumn. After this month's meeting, the next ones are scheduled for September 23, October 21, November 18, and December 16. Bloomberg consensus sees steady rates in Q3, then falling to 16.75% by year-end, 14.25% by mid-2022, and 12.75% by end-2022.

ASIA

July Tokyo CPI data was mixed. Headline inflation came in at -0.1% y/y vs. an expected gain of 0.1%, while core (ex-fresh food) came in at 0.1% y/y vs. flat expected. This was the first positive reading for core inflation since July 2020 but it's clear that Japan remains one of the major outliers globally in terms of inflation. National CPI data for July will be reported August 20. Both headline and core rose 0.2% y/y in June. For now, the Bank of Japan is on hold and its inflation forecasts suggest no tightening until FY24 at the earliest.

Reserve Bank of Australia delivered a hawkish surprise. Despite market expectations that it would reverse course, the bank said it would go ahead with its planned tapering next month and conduct a review of its QE policy around mid-November. Many thought the bank would delay tapering due to the economic fallout of the current lockdowns, but Governor Lowe was upbeat, noting 'The experience to date has been that once virus outbreaks are contained, the economy bounces back quickly. The economy is benefiting from significant additional policy support and the vaccination program will also assist with the recovery.' Lastly, forward guidance on interest rates was kept steady as 'The Board will not increase the cash rate until actual inflation is sustainably within the 2 to 3 percent target range. The central scenario for the economy is that this condition will not be met before 2024.' The RBA will issue its Statement on Monetary Policy Friday.

Korea reported higher than expected July CPI data. Headline inflation was expected to remain steady at 2.4% y/y but instead accelerated to 2.6%. This matches the cycle high from May and moves further above the 2% target. Next policy meeting is August 26 and rates are expected to remain steady at 0.5%, as the recent wave of infections poses some risks to the recovery. Still, Governor Lee has flagged a hike sometime this year. Bloomberg consensus sees the first 25 bp hike in Q4, followed by 1 hike in H1 and 1 hike next year that would take the policy rate to 1.0% by end-2022. This seems too dovish of a rate path.

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