Weekly focus – US to cut rates despite high inflation

Over the last month, market expectations have increasingly turned towards a 25bp rate cut when the Fed makes its decision on Wednesday next week. This has been driven by lower inflation expectations and weaker forward-looking economic data, such as the balance between orders and inventories in the PMI and ISM surveys for November - private sector data that is still coming in a timely manner while the aftereffects of the government shutdown continue to hamper official data. Opinions clearly differ among members of the rate-setting committee, but we now see it as most likely that they will chose to do as the market expects and deliver the rate cut next week even though inflation is clearly above target. Arguably, even if rates are cut to 3.5% - 3.75%, they will still be high enough to dampen the economy and inflation pressures. However, with wider financial conditions still supportive and fiscal policy to be eased in 2026, we see a good case for the Fed to signal a cautions stance where future rate cuts will come at a slow pace. Ahead of the rate decision, we will get the much-delayed data on job openings in September.

President Trump has flagged that he has made a decision about who will be the next Fed chairman, and betting markets overwhelmingly expect it to be Trump loyalist Kevin Hassett, who will presumably push for more rate cuts. However, the usual rotation of regional Fed presidents as voting committee members could likely push in a more hawkish direction next year.

In the euro area, wage growth was 4.0% y/y in Q3 according to the compensation per employee measure which is the one the ECB prefers. In the ECB's staff projection, the number had been forecast at 3.2%, so this is a data point that speaks clearly against another rate cut in 2026. In the same direction, GDP growth for Q3 was revised up from 0.2% to 0.3% q/q and inflation for November came in slightly higher than expected at 2.2%. For both GDP and inflation though, the upside surprises were really due to rounding up from a slightly higher second decimal so in reality, they were very small surprises.

Chinese PMI data again came in weaker than expected, with the index for new orders declining from 50.5 to 50.1 in the private sector RatingDog version and staying below the 50-threshold in the official NBS version. This came despite a clear increase in the export orders index, which suggest that the weak export data we saw in October was a one-off caused by the short-lived escalation in the trade war with the US we saw in that month. This is likely to be confirmed by the foreign trade data for November that will be released on Monday. The NBS PMI for employment declined to 46.7. This index often correlates with consumer spending in China. Together with the weakness in domestic orders, the clear picture is that domestic demand remains subdued despite the recovery in exports.

A rate hike in Japan later this month is almost fully priced in. The last remaining piece of the puzzle is wage growth which remains too low to compensate for inflation, so focus could turn to the October wage data due on Monday.

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