As the Fed prepares to deliver its fourth rate hike of the year in December, key data on consumer prices and retail sales coming up might offer some clues on the Bank’s rate normalization path in 2019.
At 1330 GMT on Wednesday, the Bureau of Economic Analysis is expected to show that October’s headline Consumer Price Index bounced up to 2.5% year-on-year after slowing down in the past two months, from 2.9% in July to 2.3% in September. The core equivalent, however, which excludes volatile items is estimated at 2.2% y/y, the same as in September, hinting that the pick up in the headline measure could be a matter of instability in food and energy prices. Indeed, the PPI report delivered last week indicated that higher gasoline, food and chemical prices were responsible for the increase in the costs of goods sold by manufacturers in October.
But under a tightening labor market, where the unemployment rate stands below the 5.0% level that’s associated with full-employment and wage growth rising at the fastest pace in more than nine years, the pickup in inflationary pressures may well be more than temporary and thus steeper increases in the core measures of inflation may materialize moving forward. Moreover, US tariffs targeting Chinese products and goods from other economies could add further fuel to inflation as businesses may increase the price of goods delivered to customers in an effort to make up for higher import costs.
In terms of monetary policy, stronger core CPI readings would increase speculation that the Fed’s preferred inflation measure, the core PCE index, might gain momentum too when it is released at the end of the month. Given that the latter is already standing at the Fed’s 2.0% inflation target, an overshoot in the reading may lead markets to start pricing in an even more aggressive tightening cycle by the US central bank in 2019. Note that the latest dot-plot signalled three 25 bps rate hikes in 2019.
On Thursday, retail sales figures could persuade investors that consumers are comfortable with higher borrowing costs. Thus, additional rate increases might not harm spending appetite at a time when stronger wage growth and tax cuts provide a larger disposable income to households. According to forecasts, retail sales have expanded by 0.5% month-on-month in October, much faster than in September when the measure marked a 0.1% rise. In the absence of automobiles, core retail sales are said to have grown by 0.5% m/m too, after dropping by 0.1% in the preceding month. It is perhaps worth noting that the Conference Board’s Consumer Confidence Index reached the highest level in 18 years in October.
In FX markets, traders invested more in the dollar in the past three weeks as political noise in Europe continued, while buying interest for the greenback flourished even after Trump’s Republicans lost control of the House of Representatives in the midterm elections last week as expected. Hopes that China and the US could restart trade negotiations gave a helpful hand to dollar bulls as well, with dollar/yen piercing the 114 round level on Monday and again on Tuesday. A data beat in coming days could lead the pair up to 114.20 where the price found resistance on Monday. If this proves weak obstacle, the focus would turn to the area between 114.54 and 114.72, formed by the highs on October 4 and the peak on November 2017. A close above that region, could then open the door for 115.50, the peak on March 2017.
Alternatively disappointing prints could see prices retesting the 113.80-113.60 area, a frequently tested territory in the past couple of days. Falling lower, support could be met around 112.92 where bearish actions paused last week, while beneath that attention could turn to 112.60.