Daily Commentary BY THE CURVE TEAM –

Trump Still On Front Foot, US Inflation To Keep FOMC Hiking

13th of July, 2018

It was a relatively quiet night as markets await the Chinese response to US Administrations latest move of tariffs while Trump remained on the front foot, going after NATO on defence spending and even giving a serve to the UK PM’s handling of Brexit. The ongoing political headlines overshadowed the latest key data in the US.

China’s restraint from an immediate response to the US tariff announcement helped equity markets bounce back from the previous nights falls. The USD also drifted back from its highs the previous nights bounce but bond markets are the one to watch.

The US yield curve continues to flatten and the spread between the 2 year and 10 year Treasury yields is now below 30bp. The closer it moves towards zero the greater the probability of a recession based on past experiences with a fall below 10bp putting the odds of a recession above 50%.

While China hasn’t responded yet, it will only be a matter of time. The Chinese Vice Minister of Commerce put to bed the debate on whether or not this is a trade war saying “The United States started the war” so expect a response in one form or another sooner rather than later.

Trump took aim at NATO shortly after arriving in Europe over member contribution, calling on other members to up their defence spending. He also had a crack at Germany over a pipeline deal with Russia. It all comes back to trade and Trump threatening Europe with more tariffs again if they fail to play ball.

As long as the US economy remains strong then Trump has the upper hand in these negotiations and will continue to push his agenda. So expected to see the headline continue to roll through with the uncertainty meaning volatility will remain high.

To top it off, Trump slammed the UK Prime Minister, Theresa May, over her handling of Brexit and the negotiations. He also indicated that any attempt by the UK to keep close ties to EU post Brexit would put the UK’s trade deal with the US at risk.

The political jostling too the focus of the latest inflation data in the US. While the rise in headline CPI was just short of estimates, core inflation lifted in line with expectations. The key was that the annual rate of both measures continues to climb with headline inflation rising 2.9% over the year with core inflation 2.3% higher.

What the data says is that the FOMC will continue on its current path until the data tells them otherwise, even as the trade war escalates.

David Flanagan

Director - Interest Rate Markets