Morning Commentary: A Hawk in a Flock of Doves

Foreign Exchange - Morning Commentary
A Hawk in a Flock of Doves 
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
The central bank of Mexico cut is key rate by 50 bps in a unanimous decision.  However, in Mexico’s case, the unanimous decision means that there were no votes for a larger cut.  Moreover, the press release accompanying the decision had a marginally hawkish tone, leading the peso to appreciate sharply.

While the central bank acknowledged that the balance of risks for growth is skewed to the downside, it sees the risks around inflation as being in both directions.   Balancing these two factors out, it appears that the bank is not in a rush to reach the neutral rate.

Illustrating this is the difference in verbiage from yesterday’s cut versus April’s emergency meeting.  At the April meeting, some members were supportive of cutting rates below neutral to support the economy.  Conversely, yesterday’s unanimous decision was to “only” cut by 50 bps and made no mention of the natural rate.  This implies that a proactive approach has yet to be the consensus view.

Looking forward, risks remain for the peso to continue to face COVID-19 related headwinds.  Mexico’s president announced that the country would begin re-opening May 18 despite limited testing ability and limited ability to trace contacts and identify/control localized outbreaks.  So while yesterday’s relative hawkishness shows that policy prudence prevails for now, the central bank will have to continue cutting.  The macro backdrop is deteriorating, so expect growth to remain under pressure against a backdrop of very limited fiscal support. 
HERE ARE THE KEY NEWS STORIES FROM OVERNIGHT:
  • US-China tensions ratcheted up another notch as the US took steps to prevent global chipmakers from supplying China’s Huawei.  In response, the Chinese said they will activate the “unreliable entity list,” and restrict or investigate US companies should the US take further steps to block the supply of key technology.  Trade tensions have hung over the markets all week and are an unwelcome development as economies around the world struggle with the negative impact from COVID-19.
  • US retail sales fell 16.4% in April.  This drop shattered the prior record drop set just last month.  Clothing store sales dropped 78.8% and electronics were down 60.6%.  US industrial production printed aa -11.2% MoM decline.   
  • House Democrats will vote on a stimulus package worth ~$3 trillion today.  There was no Republican input into the bill.  In essence, the Democrats are attempting to put the Republicans in position either to agree or block a stimulus bill ahead of the November elections.  
  • German Q1 GDP fell -2.2%, putting the country into a recession.  Euroarea Q1 GDP dropped -3.8% with employment dropping -0.2%, the first decline since 2013.   
  • UK-EU Brexit talks continue to be contentious with the EU threatening to sue the UK over free movement.  The latest round of talks conclude today with both sides expected to hold press conferences to discuss progress.  Expect little progress and a bleak outlook.  Talks will pick up again in early June ahead of the end of June deadline to request an extension. 
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