Weak retail sales dampen CPI boost

January inflation figures came in well above median forecast and raised fears of another sell-off in the equity market. The headline measure printed at 2.1%y/y, compared to 1.9%y/y consensus, while the core measure came in at 1.8%y/y versus 1.7% expected. As discussed yesterday, the steady appreciation of energy prices explains most of the upside surprise in the headline CPI. Regarding the core measure, the broad-based USD weakness of the last couple of months is undoubtedly the main reason behind this stronger Core CPI read.

Initially, financial markets reacted violently to the release as it would to suggest that the Fed would have to respond with a more aggressive path of tightening to tame accelerating inflation pressures. As broadly expected, European equities and US futures moved in negative territory with the Dow Jones losing instantaneously 2%, while the Eurostoxx 50 fell 1.4%. In the bonds market, the entire US yield curve shifted to the upside. The VIX index jumped to 25.7.

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However, it didn’t take long before investors start shifting attention towards retail sales figure to realise that consumer didn’t spent much in January. Advanced retail sales contracted 0.3%m/m (versus +0.2% median forecast), when excluding auto & gas the contraction is trimmed to -0.2%. Given the sharp and steady increase in consumer spending since September last year, this decrease is consumption is rather due to the fact that US people are taking a temporary break after the Christmas season, rather than the sign of persistent weakness in the economy. Indeed, the unemployment rate is very low and wage have finally started to grow.

Therefore, investors quickly started to dump the greenback again and bought stocks as their concerns about accelerating inflation pressure have been alleviated. This morning, the US dollar continues to grind lower. EUR/USD is up 0.4% to 1.25, USD/JPY is off 0.7% to 106.25 while USD/CHF touched 0.9229, down 0.55%. The greenback is not out of the wood yet as investors are paying more and more attention to the current account and fiscal deficit of the world largest economy. In addition, the trend seems here to stay, meaning that further USD weakness should be expected.