Market Brief: Dollar retreats on dovish messaging from Powell, trade tensions keep simmering

The dollar is retreating and benchmark Treasury yields are plumbing four-week lows after Federal Reserve Chair Jerome Powell refrained from countering market expectations for rate cuts at each of the central bank’s final two meetings this year. Speaking at the National Association for Business Economic annual meeting in Philadelphia yesterday, Powell said the “outlook for employment and inflation does not appear to have changed much since our September meeting four weeks ago”. Although “growth in economic activity may be on a somewhat firmer trajectory than expected,” available data show “goods price increases primarily reflect tariffs rather than broader inflationary pressures,” and “downside risks to employment appear to have risen”. The greenback is down against all of its major rivals, ten-year Treasury yields are knocking on the 4-percent threshold, and equity futures are headed for a stronger open as the US government shutdown further depletes an already-light data calendar.

French bond spreads are tightening as investors grow more confident that a budget deal will ultimately be reached. The ten-year Franco-German yield gap is back below 80 basis points after Prime Minister Sébastien Lecornu* agreed to postpone key pension reforms, winning Socialist Party support and improving the government’s chances of passing a bill that would deliver modest fiscal consolidation. Traders are positioning for a recovery in the euro that could see spot pushing back into the 1.16’s if tomorrow’s no-confidence vote fails.

Across the Channel, the pound is climbing at a more sedate pace after an unexpected rise in unemployment reinforced market bets on more easing from the Bank of England by spring. According to data published by the Office for National Statistics yesterday, the official jobless rate climbed to 4.8 percent in the three months ended August, vacancies continued their decline, and regular private sector pay growth—closely watched by monetary policymakers—decelerated to 4.4 percent year-over-year from 4.7 percent in July. If inflation holds at last month’s levels, the UK “misery index”—the claimant count rate and inflation rate summed together—could continue to ratchet higher, putting pressure on elected politicians and central bankers to deliver stimulative measures in the months ahead.

Today’s focus will fall on commentary from the Fed’s Miran, Waller, and Schmid, insights from the central bank’s Beige Book, and from Donald Trump’s posts on Truth Social.

Hostilities between the US and China have intensified in recent days, triggering ‘Liberation Day’ flashbacks on trading floors around the world. Markets plunged on Friday, suffering their worst losses in six months after Beijing imposed new export controls on rare earths and critical minerals, prompting Trump to respond with threats to levy additional tariffs of 100 percent on imports from China. Risk appetite recovered as a number of administration pundits attempted to defuse the situation in a series of weekend appearances—and improved further when Chinese officials made conciliatory noises—but then fell off again yesterday when the US president took to social media to call China’s boycott on soybean purchases** an “economically hostile act,” saying that he might retaliate by stopping trade in cooking oil.

This comes after China reported another annual rise in its overall trade surplus, with shipments to other countries fully offsetting a steep decline in direct trade with the US. Data released on Monday showed overall exports climbing to $328.6 billion in September, up 8.3 percent from a year earlier as volumes in the European Union, Southeast Asia, Africa, and Latin America surged.

Consumption in non-US markets may be picking up some slack, but we suspect exports to the US are being re-routed through third countries to take advantage of relatively-lower tariff rates. It’s impossible to quantify the degree to which transshipment has played a role since Trump’s first term in office—that is, of course, the point—but it seems clear that massive increases in US imports from other Southeast Asian jurisdictions are representative of an opportunistic shifting in final assembly operations, as opposed to a realignment in the global production mix. To us, this means tensions between the world’s biggest and most imbalanced economies will continue to simmer for many years to come—and that markets will frequently find themselves squeezed in the middle.

*Yes, the same Lecornu who resigned last week, only to be reappointed on Friday. Visual diagram here.

**Note that the vast majority of tariff revenues in Trump's first term went to bailing out the same group of farmers.

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