Last week, U.S. stock market sectors experienced volatility, resulting in a slight 0.03% decline in the S&P 500 Index, ending its six-week winning streak. In the bond market, better-than-expected U.S. economic data led to increases in the yields of 2-year and 10-year U.S. Treasury bonds by 15.7 basis points to 4.107% and 4.276%, respectively, with the yield spread remaining at around 14 basis points. The U.S. Dollar Index also rose to around 104 due to market expectations that the Federal Reserve will slow down its rate-cut pace.

Key Economic Data Review for Last Week

China LPR: The People’s Bank of China announced cuts of 25 basis points to both the 1-year and 5-year Loan Prime Rates (LPR), bringing them to 3.1% and 3.6%, respectively. At the Financial Street Forum on October 18, PBOC Governor Pan Gongsheng stated that the central bank is likely to lower the 7-day reverse repo rate by 0.2% before the end of the year, depending on market liquidity. There is also room for further LPR reductions in the future.

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Canada Monetary Policy: The Bank of Canada announced a 50 basis point rate cut, bringing its benchmark rate to 3.75%. Governor Tiff Macklem said that inflationary pressures in Canada have broadly dissipated and that the central bank hopes to see stronger economic growth moving forward. He also indicated that further rate cuts could be on the horizon if the economy develops as expected, to maintain inflation targets and economic growth.

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Key Economic Data Review for This Week

U.S. Q3 GDP (10/30): U.S. retail sales over the past three months have consistently outperformed market expectations, indicating resilient consumer spending. In its October report, the IMF also raised its forecast for U.S. 2024 GDP growth to 2.8% (previously 2.6%) due to strong consumer and investment spending. According to estimates from the Atlanta Federal Reserve, Q3 U.S. GDP is expected to grow at an annualized rate of 3.31%.

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Japan Monetary Policy (10/31): In early October, newly appointed Prime Minister Shigeru Ishiba stated that Japan’s current economic environment is not suitable for a rate hike. Bank of Japan Governor Kazuo Ueda echoed this sentiment, citing market instability and concerns over a potential U.S. recession as key reasons for the Bank of Japan’s cautious approach to rate hikes. As a result, the market widely expects the Bank of Japan to keep its policy rate unchanged at 0.25%.

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U.S. October Employment Data (11/1): The U.S. services sector has continued to support domestic consumption and employment, pushing the unemployment rate down to 4.1% and nonfarm payrolls to a stronger-than-expected increase of 254,000. However, recent hurricanes and the Boeing strike may put downward pressure on the October jobs data. The market currently expects the unemployment rate to remain at 4.1%, with nonfarm payrolls likely to fall to 111,000 due to these short-term factors.

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The Reserve Bank of Australia (RBA) announced on September 24 that the cash rate target remain at 4.35%, marking the seventh consecutive month at this level, which is also the highest in nearly 12 years.

In the meeting statement, the RBA noted that restrictive financial conditions continue to suppress consumption, contributing to a slowdown in the economy. However, the unemployment rate remains stable, the labor force participation rate is at a historic high, and job vacancies continue to grow, slightly easing labor market tensions.

The RBA stated that while household consumption is expected to recover in the second half of the year, if the pace is slower than anticipated, it could lead to prolonged weakness in economic output and further softening of the labor market. Moreover, global economic instability and geopolitical risks add to the uncertainty surrounding Australia’s economic outlook.

The RBA also highlighted that recent data reinforces the potential for upside inflation risks. The central bank now expects inflation to return to the target range by the end of 2025 (compared to the previous estimate of mid-2025 in August) and to approach the midpoint of the target range by 2026.

The RBA emphasized that bringing inflation down remains its top priority and stated that it would maintain restrictive monetary policy until there is clear evidence that inflation is steadily returning to the target range. Following this statement, the market now expects the RBA to hold off on cutting rates until February next year.

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The Federal Reserve held its FOMC meeting on September 18, announcing a 50-basis point cut to the federal funds rate, lowering it to a range of 4.75% to 5%. In its post-meeting statement, the Fed noted that the labor market had shifted from moderate growth to a slowdown, and its confidence in inflation returning to the target range had strengthened. Given the uncertainty surrounding the economic outlook and the balance of risks, the Fed decided to initiate a rate-cutting cycle, lowering rates by 50 basis points to support the U.S. job market.

In its Summary of Economic Projections (SEP), the Fed slightly revised down its 2024 economic growth forecast from 2.1% to 2.0%. It also raised the unemployment rate forecast from 4.0% to 4.4%, with unemployment expected to peak in 2025. Core inflation is projected to rise from 2.6% in June to 2.8%, with expectations for it to fall back to the target range by 2026.

The median of the Fed’s dot plot indicates that, assuming the economy develops as expected, interest rates will drop to 4.25% to 4.5% in 2024 (a total of 4 rate cuts) and to 3.25% to 3.5% in 2025 (another 4 rate cuts), with the long-term neutral rate projected to be between 2.75% and 3% (2 more cuts).

Overall, through this decision and economic forecast, the Fed aims to communicate to the market that while it acknowledges the weakening of the labor market, it remains committed to using appropriate rate cuts to support employment, while ensuring inflation stabilizes and economic growth continues.

Post-Meeting Press Conference Q&A Highlights

1. Labor Market

• Q: Historically, when the unemployment rate rises rapidly, it typically doesn’t stabilize quickly. However, the SEP data suggests that the unemployment rate will rise to 4.4% in 2024 and then stabilize. What is the mechanism behind this? What are the risks involved?
• A: Overall, the U.S. economy is growing steadily, inflation is gradually falling, and the labor market is returning to balance. The Fed’s goal is to maintain this status quo.
• Q: Over the past three months, the average monthly job gains were just over 100,000. Are you concerned about further deterioration in the labor market?
• A: This is mainly due to an increase in international migration, but the decline in job vacancies has also reduced overall job gains, which is the primary reason for the recent rise in the unemployment rate. Some FOMC members have considered the changes in the Beveridge Curve, noting that as job vacancies continue to fall, there may be a point where it directly converts to rising unemployment. We are likely approaching that point.

2. Inflation

• Q: With persistent housing inflation, is it still possible for overall inflation to return to 2%?
• A: Housing inflation has indeed been a drag on overall inflation. Although rental prices are falling slower than expected, as long as they remain low over the long term, it will eventually show in the overall inflation figures.

3. Interest Rate Adjustments

• Q: Recent labor market data has been significantly revised downward. Does this suggest that the Fed is behind in adjusting rates? Can we expect the Fed to maintain its current adjustment pace in the future?
• A: I do not believe the Fed is behind in adjusting rates. We have been taking timely, precautionary measures to respond to changes.
• Q: In the coming months, should we expect rate cuts of 25 bps or 50 bps?
• A: The SEP provides a reasonable reference, but the final rate adjustment will depend on economic performance. If the labor market weakens further, we may accelerate the rate cuts, and vice versa.

4. Balance Sheet Reduction

• Q: In 2019, the Fed halted its balance sheet reduction when it adjusted monetary policy. With this 50 bps rate cut, is there any indication that balance sheet reduction might stop as well?
• A: As of now, the Fed’s reserves remain sufficient. The balance sheet reduction has been primarily managed through the ON RRP (overnight reverse repurchase agreements). At this time, we are not considering halting the reduction. If rate cuts and balance sheet reduction are both seen as part of monetary policy normalization, then both can continue simultaneously for a period of time.

Comparison of the September and July FOMC Statements

The Bank of Canada (BoC) announced a 25 basis point rate cut on September 4, in line with market expectations, marking the BoC’s third consecutive rate cut since June. The BoC noted that CPI growth across its components has returned to historical range, with core inflation  nearing the target range. Although housing and service inflation remains elevated, it has begun to slow down, and there are currently few signs of significant inflationary pressure in Canada.

The BoC is now placing greater emphasis on signs of economic weakness. Recent data indicate that economic growth is slowing, and the unemployment rate has risen due to an increase in labor supply and a slowdown in hiring, which is easing inflationary pressures and introducing downside risks to inflation.

When asked about the pace of future rate cuts, BoC Governor Tiff Macklem stated that if inflationary pressure exceeds expectations, the central bank will maintain its current pace of rate cuts (25 basis points). However, if the economic condition worsens and inflation falls more rapidly, the BoC may accelerate the pace of rate cuts (50 basis points).

According to a report by Reuters, some economists predict that economic weakness could prompt the BoC to implement a 50 basis point rate cut in October or December.

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As the unwinding of yen carry trades came to an end, the market returned to a more stable state, though it remains highly sensitive to economic data. The S&P 500’s gains narrowed due to underperformance in some tech stocks, while it also faced the challenge of reaching new highs. Meanwhile, U.S. 2-year and 10-year Treasury yields edged higher due to shifting expectations around rate cuts, though the overall yield spread narrowed to a range of -10 to 0 basis points. The U.S. Dollar Index also saw a slight increase, driven by reduced expectations of rate cuts from the Federal Reserve.

Economic Data Review for Last Week:

• U.S. PCE (July): The July Personal Consumption Expenditures (PCE) price index rose by 2.5% year-on-year (same as the previous month) and 0.2% month-on-month (up from 0.1%). Within the details, goods inflation was flat at 0% year-on-year (up from -0.2%), while services inflation increased 3.7% year-on-year (down from 3.8%), as both factors have a limited impact on overall inflation decline. Core PCE, which excludes food and energy, increased by 2.6% year-on-year (unchanged from the previous month) and 0.2% month-on-month (also unchanged), both in line with market expectations.

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• China CPI (July): The July Consumer Price Index (CPI) rose by 0.5% year-on-year (up from 0.2%), marking the sixth consecutive month of positive growth and exceeding market expectations. The increase was mainly driven by food prices, which were affected by extreme weather conditions. Excluding volatile food and energy prices, core CPI rose by only 0.4% year-on-year, down from 0.6% in the previous period.

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Key Data to Watch This Week:

• U.S. ISM Manufacturing PMI (9/3): The U.S. ISM Manufacturing PMI for July came in at 46.8 (down from 48.5). The decline in July mainly reflects reduced investment in manufacturing due to high interest rates, along with continued weakness in goods demand, leading companies’ production and revenue to contract prompting them to implement cost-saving measures such as layoffs and hiring freezes. The market expects the Manufacturing PMI to recover slightly to 47.5, but it is still expected to remain in contraction territory.

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• Bank of Canada Monetary Policy Meeting (9/4): The Bank of Canada (BOC) has cut rates by 50 basis points since June. As inflation continues to decline, the BOC has increasingly shifted its focus to cope with economic weakness. The market expects the BOC to announce another 25 basis point rate cut at its September meeting, with two more cuts likely by the end of the year.

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• U.S. ISM Non-Manufacturing PMI (9/5): The U.S. ISM Non-Manufacturing PMI (NMI) for July was 51.4 (up from 48.8). The rebound in July mainly reflects strong business activity, although respondents indicated potential challenges ahead, and they remain cautious due to the upcoming U.S. presidential election. The market expects the NMI to decline slightly to 50.9, but it is still anticipated to remain in expansion territory.

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• U.S. Employment Situation Report (9/6): In the household survey, the unemployment rate rose to 4.3% in July (up from 4.1%), mainly reflecting an increase in labor supply and reduced hiring by companies. In the establishment survey, nonfarm payrolls increased by 114,000 in July (down from 206,000), significantly below the 12-month average of 215,000. Overall, the labor market appears to have returned to a balanced state, with no signs of widespread layoffs, though ongoing developments should be closely monitored. The market expects the unemployment rate to fall back to 4.2%, with nonfarm payrolls expected to rise by 164,000 in August.

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