USD: Upside risks this week
Three key themes are highly influencing the market mood at the start of this week: 1) Friday’s very strong US jobs data; 2) US-China tensions over the Chinese air balloon; 3) reports about the next Bank of Japan (BoJ) governor.
The January jobs report in the US on Friday smashed expectations, showing a half-million increase in employment and the jobless rate falling to 3.4%. As highlighted by our US economist here, such a strong print surprisingly – but clearly – signals employers are still willing to hire despite multi-month falls in industrial production, residential construction output and disappointing consumer spending. One silver lining is that the wage growth slowed from a revised 4.8% to 4.4% year-on-year, a signal that firms are able to hire without offering meaningfully higher salaries despite the very tight labour supply.
Still, this is clearly an inflationary jobs market on paper, and a 25bp hike by the Fed looks highly likely now. Fed Chair Jerome Powell in last week’s post-FOMC press conference outlined a potential “goldilocks” scenario where inflation declines without a material rise in unemployment. We’ll see how much confidence he has in this scenario tomorrow as he speaks at the Economic Club of Washington. A rate protest after the post-FOMC market reaction may signal the Fed is not as relaxed as it may have sounded last week about loosening financial conditions. More Fedspeak is scheduled for the rest of the week.
The data calendar is rather quiet in the US this week, which leaves geopolitical themes more space to drive market sentiment. Hopes of an improvement in US-China relations have plummeted after the US shot down a Chinese air balloon which they claim contained spy equipment. China has reiterated it was a civilian aircraft that had strayed off course and reached US airspace, and has threatened retaliation.
This looks like a major setback in what may have been an important bullish driver for global risk sentiment in 2023, as Beijing’s relationships with the West appeared on track for some relaxation at the same time as China’s reopening of the economy was happening. A rebound to the 6.85-6.90 area in USD/CNY could signal markets are effectively moving to discount more negative trade implications for China, which would buck the recent bullish trend on Chinese sentiment.
Finally, USD/JPY briefly traded above 132.00 in early Asian trading after reports that Bank of Japan deputy governor Masayoshi Amamiya was approached by the government to become the next BoJ governor. He was largely seen as leaning on the dovish side and more likely to favour a continuation of Haruhiko Kuroda’s loose policy rather than deploying those structural changes to the yield curve control markets have been speculating on. It is too early to draw conclusions on this, and both data and market dynamics may have a bigger say on potential BoJ policy changes than the new governor: for now, however, markets may be more reluctant to add bearish Japanese government bond (JGB) positions, and USD/JPY could find some support.
All in all, these three themes appear to be pointing primarily at upside risks for the dollar this week. We think DXY could consolidate around the 103.00 mark until new first-tier data in the US are released next week and could reignite the re-rating of US growth and Fed rate expectations.
Francesco Pesole
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