Markets' focus has been on the debt ceiling negotiations, and while time is running short, the parties seem close to reaching a deal. While risk sentiment recovered towards the end of the week, equities have generally headed lower and yields higher while USD has gained especially vis-à-vis cyclical currencies. Based on the short-end of the US T-bill curve, default worries appear to be concentrated on the first two weeks of June. The first date when the treasury cash balance is expected to decline to dangerously low levels is next Thursday, 1 June, unless Congress can agree on raising the ceiling before then.
And while the negotiations could once again go down to the wire, ultimately we do think a deal will be struck in time to avoid a default. Following the debt ceiling raise, the treasury will soon start rebuilding its cash balance, which is set to tighten USD liquidity conditions towards the latter half of the year. Even so, we see room for the Fed to continue QT into 2024.
On the macro data front, May flash PMIs continued to paint a relatively upbeat picture, although a two-speed one, of the economy. Both growth and inflation pressures are driven by the services sector, with US indices signalling even accelerating growth. That said, we still expect growth to weaken towards H2, which we are also increasingly seeing in our quantitative business cycle model MacroScope: recovery stalling, 25 May.
FOMC May minutes illustrated divided views among the participants. Fed's recent commentary has highlighted that the doves, and not least Powell, prefer a more cautious stance going forward, while the hawks found it 'crucial' to underscore that cuts would not be likely this year and that further hikes could not be ruled out. Markets have almost fully priced in one more 25bp Fed hike by the July meeting and while we do not expect it to materialize, we see no room for cuts this year either.
Over the weekend, the Turkish presidential election run-off will take place between the opposition candidate Kemal Kilicdaroglu and the incumbent president Recep Tayyip Erdogan, who stands out as a favourite after nearly clinching the victory on the first round (with 49.5% of votes).
Next week, the main focus besides the debt ceiling will be on the euro area flash HICP data for May, where consensus is looking for a slight moderation in core inflation pressures. On Friday, we expect to see another relative upbeat US Jobs Report. So far the signals from leading data have pointed towards healthy employment growth, which could be further supported by a renewed uptick in labour force participation. We think non-farm payrolls grew by a solid 200 thousand, and besides employment, markets will closely follow if the April uptick in average hourly earnings growth has persisted into May.
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