A roller coaster week saw further trade rhetoric grab market attention with Trump’s comments such as “Tariffs are the greatest”, and renminbi “has been dropping like a rock” not helping market stability. Fortunately, on Thursday, US-EU trade talks appeared to calm markets. US Q2’18 GDP came in at 4.1%, marginally below expectations; although still a strong reading, Friday saw the S&P fall, dragged by the US tech sector. Meanwhile, the dollar closed the week 0.20% higher, the yield on the 10-year UST moved 6bps higher to 2.96%, and Brent gained 1.67%.
Elsewhere, the offshore renminbi suffered a 0.54% fall against the dollar last week. As we have mentioned time and time again, we do not think a weaker currency is in China’s interests as it pushes forth with consumer-driven growth reform. Also, according to a spokesman, “China doesn't want to boost its exports through competitive devaluation while the nation's sound economic fundamentals are providing support to the currency”. With the renminbi having fallen to 12-month lows, and policymakers highlighting their confidence in recently announced measures to temper further depreciation and maintain stable economic growth, we continue to believe that over the longer term the renminbi will continue to broadly appreciate against the dollar, we, therefore, see this as a renminbi buying opportunity.
China unleashed a raft of measures to counter the potential ill effects of the Trump Trade Wars on its economy, and in particular the renminbi last week. We have often spoken of the nation’s plethora of firepower which it can deploy to maintain stability, and recent actions have displayed just how these can be utilised. ‘Proactive’ fiscal policy and ‘reasonably adequate’ liquidity conditions were stated as the main ingredients to support growth and structural reform. Policymakers will also continue to maintain social financing at appropriate levels and a number of projects will be brought forward to meet development goals and better the country’s livelihood. Local governments will also be encouraged to issue around RMB 1.35tn (~USD 200bn) in special bonds which will be used to fund local infrastructure projects. Whilst monetary policy will be neither tight nor loose. China’s most recent GDP release for Q1’18 remains above policymakers’ target of “around 6.5%”, at 6.7%yoy; so if necessary, there is room for growth to soften without any drastic monetary policy easing requirements or use of the nation’s huge USD 3.1tn fx reserves.
Elsewhere, as expected the ECB kept rates and QE policy on hold, with President Draghi presenting a dovish tone. At the post-meeting, Q&A Draghi continued to call the outlook for growth as “broadly balanced” and noted some improvement in recent survey data. He highlighted the prominence of trade risks as a concern, noting that it is “too early” to assess the impact of the Trump-EU trade agreement, where on Wednesday the US and EU apparently agreed to “work together toward zero tariffs, zero non-tariff barriers, and zero subsidies on non-auto industrial goods”. We still await to hear of further developments on the auto sector and metals tariffs already enforced. Elsewhere, Mexico’s AMLO (who is to take office in December) appears to be taking a proactive role on issues such as NAFTA, having written to Trump advocating that the US and Mexico work together on the key issues of "trade, migration, development, and security". AMLO thinks "it is worthwhile making an effort to conclude the renegotiation of” NAFTA as “uncertainty could slow down investments”. While an element of caution is probably warranted, Mexico’s constructive dialogue with the US is positive for investor sentiment, particularly following the agreement between the US and EU. Also, on Friday, US Trade Representative Robert Lighthizer said that Nafta countries are hopefully in the final stages of reaching an agreement.
This week, the main highlights will be the US PCE readings on Tuesday, the US employment report on Friday, and the FOMC notes from the Tuesday and Wednesday meetings; Bloomberg is currently pricing a very small (1.3%) chance of a hike at the August meeting, however, as most expect the Fed may hike in September (81.3% chance priced in). The BoJ will meet on Tuesday, where its expected the central rate will be left at 0%, however, after the broader sell-off across bond markets last week, the market consensus is that the central bank may look to raise the upper bound on the 10-year benchmark from 0.1%, and adjustments to currently ultra-loose monetary policy may be discussed. The BoE meeting and inflation report release on Thursday will we watched by many, as a 25bps rate hike, to 0.75%, is expected, and currently priced in by the market (77.5% by Bloomberg) following the strong inflation report. Global trade rhetoric will also remain a key focus in the coming week as will US and European company earnings.
In terms of data, Monday’s US pending home sales for June may be of interest following the weak readings in May. Tuesday kicks off with a number of PMI readings from China, for July, with the Caixin Manufacturing PMI following on Wednesday. However, the key data feature on Tuesday will be the June US PCE report, along with a number of sentiment readings for July; interestingly the Q2’18 core PCE was released at 2.0%qoq, on Friday, down from 2.3% in the first quarter. US ISM readings follow on Wednesday, with factory orders and durable good orders grabbing attention on Thursday. Markets will close the week with the US employment report, where market consensus is currently looking for: a fall in unemployment to 3.9% (from 4.0% from June), a marginal pick up in average hourly earnings in July, 0.3% mom, however, the yoy reading is expected to remain at 2.7%. Later we will have the flash Markit US PMI readings for July, and the non-manufacturing ISM print.