- U.S. CPI report expected little changed but could boost inflation outlook
- Unemployment claims will see continued hurricane disruptions
- Merkel still heavily favored in Sep 24 German election
U.S. CPI report expected little changed but could boost inflation outlook — The sharp decline in the U.S. inflation statistics since winter has caused the market to substantially reduce expectations for another Fed rate hike by year-end. The market is currently discounting the odds for a Fed rate hike by December at only 52%, which is substantially below the odds that were as high as 80% in March.
The U.S. CPI has fallen by a full percentage point to +1.7% y/y from Feb’s 2.7% and the core CPI has fallen by -0.6 points to 1.7% from Jan’s +2.3%. The PCE deflator, the Fed’s preferred inflation measure, has also shown weakness and is well below the Fed’s +2.0% inflation target. Specifically, the PCE deflator has fallen by -0.8 points to +1.4% y/y from Feb’s +2.2%. The core PCE deflator has fallen by -0.5 points to +1.4% y/y from the Jan-Feb level of +1.9%.
However, yesterday’s Aug PPI report was strong with a rise in the PPI to +2.4% y/y from +1.9% and a rise in the core PPI to +2.0% from +1.8%. In addition, inflation expectations have been rising. The 10-year breakeven inflation expectations rate has risen by about +10 bp in the past two weeks to a 3-3/4 month high of 1.85%. The rise in inflation expectations has been caused in part by higher gasoline and oil prices.
The uptick in the inflation outlook in the past week has helped cause the odds for a Fed rate hike by year-end to rise to 52% on Wednesday from a low of 38% last Wednesday. The other reason for the rise in the December odds for a Fed rate hike is the smaller-than-expected impact from Hurricane Irma.
The consensus for today’s Aug CPI report is for little change. The Aug CPI is expected to rise slightly to +1.8% y/y from July’s +1.7%, but the Aug core CPI is expected to ease to +1.6% y/y from July’s +1.7%. However, if today’s CPI report is stronger than expected, then the market will quickly further boost the odds for a rate hike by December.
Unemployment claims will see continued hurricane disruptions — Today’s unemployment claims report will continue to see serious disruptions from Hurricane Harvey, which made landfall on Aug 25. However, today’s initial unemployment report for the week ended Sep 8 should not yet see much distortion from Hurricane Irma because Irma did not make landfall until Sep 10, two days after the survey period ended.
The market consensus is for today’s initial unemployment claims report for the week ended Sep 8 to show a small +2,000 increase to 300,000. Initial claims in last week’s report for the week ended Sep 1 (the first full reporting week following Harvey) surged by +62,000 to 298,000 on layoffs tied to Harvey. The initial unemployment claims series to some extent is a proxy for the extent of business disruptions caused by hurricanes. The consensus is for today’s continuing claims report for the week ended Sep 1 to show a +10,000 increase to 1.950 million, more than offsetting last week’s -5,000 decline to 1.940 million.
Merkel still heavily favored in Sep 24 German election — Germany’s election is now only 1-1/2 weeks away on Sunday, Sep 24. The election has received little market attention since Angela Merkel is the overwhelming favorite to keep her job as German Chancellor, thus preserving the status quo.
The good news for the markets is that the German right-wing populist party has no chance of winning the election and the worst case is that the establishment Social Democrats take over from Ms. Merkel, which would not result in major policy changes.
Ms. Merkel’s coalition currently has a commanding 13 point lead in the polls with 39% support versus 24% support for the opposition Social Democrats (SPD), according to a Wahlrecht de poll released on September 12 and carried by the Financial Times. The opposition Social Democrats received a substantial boost in the polls after Martin Schultz was appointed as the new leader of the party this past January, but the SPD party then quickly fell back in the polls and Ms. Merkel reasserted her strength.
The right-wing populist Alternative For Germany (AfD) party has 10% support in the polls, which suggests it has a good chance of meeting the 5% threshold to win seats in parliament. The AfD will not be included in a ruling coalition and will have no real power, but nevertheless could gain a higher profile and stronger popular support if it receives seats in parliament, which would be negative for the markets. The AfD party is led by Frauke Petry. The AfD has been hurt in recent months by party infighting.
The betting odds at PredictIt.org are overwhelmingly in favor of Ms. Merkel keeping her job as German Chancellor at 96% versus only 4% for SPD leader Martin Schultz.
However, the odds are a few points tighter at the UK betting houses. Oddschecker.com currently has the odds for the next German Chancellor at 92% (1/12) for Ms. Merkel and 10% (9/1) for Martin Schultz.
