The US-China trade war is stalled

Outlook:

The US-China trade war is stalled. China seems to be declining to respond. One interesting thing is the PBOC Deputy Gov announcing the exchange market will be kept "stable" and the bank will ensure that the yuan trades at a "reasonable" level. This is a form of verbal intervention and all intervention is frowned upon, but since it is also a refusal to engage in a currency war, favors a reduction in risk aversion. The dollar/yuan closed lower and on an inside day. We shall see if this is a one-time symbolic thing or the dollar retreats further.

In other news, the trade war is affecting capital spending in the US. The WSJ reports "Spending on factories, equipment and other capital goods slowed in the first quarter among a broad cross-section of large, U.S.-listed companies. Capital spending was up 3% from a year earlier at 356 S&P 500 companies that had disclosed figures through midday May 8, slowing from the 20% pace of first-quarter 2018. Executives at some companies said trade tensions with China were making them and their customers cautious, raising the prospect that slower business spending could hamper economic growth later this year and next."

We get a ton of central bank speakers this week, including Draghi and EC Chief Economist Praet at an ECB Colloquium where the topic is "Monetary Policy in an incomplete Monetary Union." In the US, the Atlanta Fed is holding its 24th Financial Markets Conference with just about every Fed speaking, including Powell and Clarida. In addition, Rosengren speaks at the Economic Club of NY tomorrow and St. Louis Fed Bullard is speaking in Hong Kong tomorrow.

The central question for the dollar (as well as other asset classes) is whether the Fed will take the US-China trade war into account when making monetary policy going forward. This evening Fed chair Powell speaks on the subject of "risks to the financial system" and China certainly qualifies. Dallas Fed Kaplan has already said trade tensions are having a "chilling effect" on the US and global economy. These new statements may eclipse the FOMC minutes on Wednesday.

If the Fed starts sounding more dovish because the trade war has changed from a skirmish to a battle, the dollar can retrace some gains—without losing its overall dominance. As with all retracements, we never know how much or for how long. The dreadful outlook for sterling saps the energy of a retracement, but the yen is vulnerable if an when trade war starts to seem like a new normal instead of a crisis. We'd cut long dollar positions...

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