Archive for: Echo_20

Summary

The U.S. economy is at a greater risk of recession now than it was a month ago, but this 0.3% contraction in Q1 GDP is not the start of one. It reflects instead the sudden change in trade policy that culminated in the biggest drag from net exports in data going back more than a half-century.

Economy Falls into the Trade Gap

The U.S. economy contracted at a 0.3% annualized rate in the first quarter (chart). If you look at this development through the lens of businesses and households trying to get ahead of the tariffs, many of the big pieces of today’s report fall into line. For starters, trade lopped 4.8 percentage points off of first quarter growth. It is rare for a drag that large to come from a comparatively small component of GDP such as net exports. In fact, we haven’t seen a drag of this size in data going back to the late 1940s (chart). This is not because trade activity was grinding to a halt, but rather because imports shot up as firms tried to pull forward needed industrial supplies and retailers stocked their shelves with consumer goods.

Consumers pulled forward demand somewhat as well with overall PCE growth coming in stronger than expected at 1.8% during the period. That stronger-than-expected outturn exerted a 1.2 percentage point boost to the headline number which kept the contraction in GDP from being a larger one. While it might be handy to point to pre-tariff spending to explain the stronger consumer numbers, that is not an entirely accurate way to characterize what is happening. While monthly auto sales and anecdotal comments from retailers suggest a jump in March spending, most of the strength in PCE was in service outlays which rose 2.4%, much stronger than the 0.5% gain in goods outlays.

In a March report titled April Showers, we previewed some of the economic tumult that was in store for this month, saying that in a climate of uncertainty, April would bring some hard details. On this 30th and final day of the month, the first look at Q1 GDP was more or less right in line with what we described in that preview note when we said that “in anecdotal conversations we’re having with trucking and logistics clients, the rush to get product continued into March…if we see a continued pull-forward in demand, trade could be an even larger drag on first quarter growth.”

The curious thing about today’s report, in our view, is that despite the 4.8 percentage point drag from trade, there was only a partial offset (2.3 percentage point boost) from inventories. If firms and retailers were indeed pulling forward needed inputs and consumer goods, it stands to reason that stockpiling would have offered more of a counterweight. We would not be surprised to see the inventory figures revised higher in subsequent releases, perhaps even enough to change this small contraction to small growth.

In other words, cutting through tariff effects are challenging. We often look to real final sales to domestic private purchasers for a somewhat cleaner measure of underlying domestic demand. This measure rose at an 3.0% annualized pace in Q1, suggesting a relatively steady pace of growth (chart). Yet still this measure isn’t a perfect indication of underlying demand today given consumers may have pulled forward some purchases toward the tail-end of the quarter and equipment investment received a jolt, up at a 22.5% annualized pace in Q1, primarily due to a pickup in aircraft shipments.

In a nutshell, tariff disruption introduced a lot of noise into the headline Q1 growth number. The question is for how long consumers and businesses can withstand uncertainty. If Q1 growth was influenced by a pull-forward in demand to get ahead of tariffs, to what extent should we brace for a hangover effect in Q2? Consumer and business optimism has tumbled as fear of inflation and recession permeate the economic environment. The U.S. economy is at a greater risk of recession today than it was even a month ago, but this contraction in GDP is not the start of one.

Market Picture

The crypto market remains in prolonged consolidation as it approaches the $3 trillion level, losing about 0.5% over the past day. For the past five days, the market has fluctuated in a very narrow range, with some tendency towards shallower declines. Still, it has been unable to exceed its 200-day moving average, which is now passing through $3.01 trillion. A global positive is needed for a breakout, but it would open the way to the $3.50 trillion area.

Bitcoin is hovering near $94,500, forcing the entire cryptocurrency market to watch for the next move. Such long consolidations usually accumulate strength for further movement. The next major trigger is likely to be Friday’s labour market data.

Ethereum continues to struggle with its downtrend, hovering around the $1,800 for the past seven days, right where the 50-day moving average and the resistance line of the descending channel converge.

An upward momentum would be an important positive signal, but theoretically, under these conditions, the baseline scenario is a downward reversal.

News Background

Presto Research predicts that Bitcoin will reach $210,000 by the end of this year. Growing institutional interest and rising global liquidity will be the primary drivers behind its price increase.

Bitwise believes that Bitcoin’s recent rise above $94,000 occurred with minimal participation from retail investors. The current rally has been initiated by institutional investors, financial advisors, corporations, and even governments. The list of investors buying BTC is expanding.

The growing share of bitcoins purchased at lower prices indicates that the rally is approaching a ‘historic level of euphoria,’ according to Darkfost, an analyst at CryptoQuant.

Crypto Caesar analyst believes that breaking through the psychological level of $100,000 will pave the way for Bitcoin to new all-time highs in the range of $110,000-115,000.

Market sentiment somehow improved on news that Donald Trump would ease auto tariffs by lifting some levies on imported auto parts, and to avoid aluminium and steel levies stacking up alongside the rest of the tariffs—probably as a marketing move as he gave a speech in Michigan marking his 100 days in office. As a result, carmakers around the world and major US indices posted gains yesterday.

Part of the gains was also due to hope that US corporate earnings would be resilient to tariff uncertainty, that Scott Bessent is eyeing July 4th to pass a multi-trillion-dollar tax cut package to help improve the new administration’s plunging approval ratings, and that the Federal Reserve (Fed) would step in if things worsened. But the majority of the news was less than ideal—to say the least. So let me cite a few that caught my attention.

First, GM lowered its earnings guidance for the year citing tariff uncertainty, suspended a $4bn share buyback plan, and postponed its earnings call as it needed more clarity on tariffs before making additional statements. The tariff relief for carmakers helped GM recover most early losses, but the stock remained capped at its 50-DMA and the top of its November-to-date bearish trend channel.

Kraft Heinz cut its annual sales and profit outlook due to weakening consumer sentiment and the prospect of higher costs. Chipmaker NXP tanked nearly 7% after warning of a ‘very uncertain environment.’ UPS announced it will cut 20,000 jobs and close dozens of facilities. S&P Global lowered its revenue forecast, expecting that companies will delay debt sales due to highly uncertain market conditions.

Apple said it would produce iPhones in the US—good luck with that. Adidas said it would reflect tariff-led price increases in US prices. Amazon first suggested it could show the additional cost of tariffs on bills—like Chinese retailers do—but walked back the decision after facing the White House’s rage, which called the move ‘political’. Hilton lowered its earnings forecast, PayPal didn’t improve its forecast despite a stronger-than-expected quarter, while Spotify offered a muted outlook.

Then, Super Micro Computer posted softer-than-expected quarterly results after the bell, Snap flagged lower sales, and Starbucks’ sales fell slightly faster than expected.

US futures are in the negative this morning.

The rest of the week will be crucial for Big Tech. Microsoft, Meta, and Qualcomm are due to release earnings today after the bell; Apple and Amazon report tomorrow. There are reports—pre-earnings—that Microsoft and Amazon could scale back spending plans due to an overestimation of AI demand that may have resulted in oversupply. Spending plans will be just as important as quarterly results. Hints of lower AI spending from the four biggest spenders globally (expected to spend over $300bn this year) could send markets back into bearish territory, while reiterating spending commitments could convince some investors to buy the dip—not knowing, however, how big a hit US Big Tech could take from the trade war, as Europe is now directly targeting these firms in retaliation against Trump’s tariff attacks.

Anyway, on the data front, the news isn’t brilliant either. US job openings fell in March, and the Atlanta Fed’s GDPNow forecast was revised down further to 2.7%—suggesting that the US economy may have contracted by 2.7% in Q1. The first official US GDP estimate is due today, with a Bloomberg consensus pointing to 0.4% growth—so expect some disappointment. But disappointment doesn’t mean a risk-off move. Since a sharp contraction has likely already been priced in, a weak number could lead to dip-buying on rising dovish Fed expectations.

Besides that, US ADP data and CPI updates from Eurozone countries will be in focus.

In FX, the US dollar is slightly better bid this week on signs that Trump is pulling back tariffs, but risks remain tilted to the downside. The EURUSD saw strong resistance into the 1.1420 level after data yesterday hinted at softer sentiment across the Eurozone: lower-than-expected GDP growth coupled with a higher-than-expected CPI print from Spain. Today, French and German numbers will be in focus. The euro needs strong growth and soft inflation to break the 1.15 resistance against the US dollar.

European equities, meanwhile, are enjoying a rare calm amid Trump’s attacks. The Stoxx 600 extended gains above the 200-DMA for a second straight session, yet trade negotiations with the US aren’t going in the right direction—which could limit enthusiasm as the index approaches a critical Fibonacci resistance.

Over in China, the CSI 300 remains particularly flat amid conflicting PMI numbers—official data suggests contraction, while the Caixin print hints at slight expansion in manufacturing activity. That, coupled with worsening global trade sentiment and a 3.76 million barrel rise in US weekly oil inventories, sent US crude below $60pb this morning. The outlook for oil and industrial metals remains negative given the gloomy global growth outlook.

In Australia, the latest CPI print came in stronger than expected, giving some support to AUDUSD. But the Aussie still needs reassurance that China is doing fine to clear its 200-DMA resistance.

Closer to home, UK food prices posted their biggest jump since January last year due to tax increases and a sharp rise in the national minimum wage, which hit supermarkets particularly hard. The 6.7% minimum wage hike fuelled UK inflation expectations and tamed dovish Bank of England (BoE) bets.

On the inflation spectrum, the euro appears to be in the best place—with potential disinflationary impact from a stronger euro and weaker energy prices. The UK sits in the middle, with an uncertain inflation and growth outlook as tax and wage hikes could offset disinflation from stronger sterling and softer energy. The US is in the worst place among the three, with sharply deteriorating growth and rising inflation expectations.

As such, the euro has the most positive outlook, followed by sterling, and lastly the US dollar.

Headline CPI 0.9%qtr/2.4%yr; Trimmed Mean 0.7%qtr/2.9%yr; Weighted Median 0.7%qtr/2.9%yr. Momentum in core inflation at the bottom of the band.

The CPI gained 0.9% in the March quarter, stronger than market consensus (0.8%) and Westpac’s expectation (0.7%) but we did highlight upside risk to our estimate. The annual pace of headline inflation, at 2.4%yr now definitively below the mid-point of the RBA’s inflation target band.

The more important measure of core inflation, the Trimmed Mean, rose 0.7% taking the annual pace down into the RBA’s target band at 2.9%yr with the two-quarter annualised pace dropping down to 2.4%yr. Westpac and the market had been looking for a 0.6% increase while we did see the risk to the upside of our estimate.

With the momentum in core inflation definitively at the bottom of the target band inflationary pressures have moderated, and the door is open for a rate cut in May. Our Chief Economist, Luci Ellis, had already locked in a rate cut for May “Lock it in: RBA to cut 25bps in May” and today’s data provides no reason to question that view.

The Monthly CPI Indicator came in 2.4%yr, the market was expecting 2.2%yr, Westpac was at 2.0%yr. Most of the variation to our estimate was due to stronger than expected increases in food, electricity, health, travel and education.

Headline inflation has been significantly reduced by various cost-of-living measures, but this is now being reversed as the energy rebates are being unwound, particularly the large $1,000 lump sum rebate in Qld. This quarter we saw a 16.3% increase in electricity prices which was stronger than our 14.5% estimate (worth an additional 0.05ppt on the CPI).

We estimated that these measures have shaved 0.5% off inflation in the year to March 2025. However, in the quarter with electricity prices rising we found that the rebates added 0.1ppt to the CPI. However, impact of these cost-of-living measures have had a limited impact on core inflation. As such the Trimmed Mean remains a reliable measure of core inflationary pressures and thus presents no hinderance to a rate cut by the RBA.

Core inflation is being held down by the moderation in housing inflation due to the moderation in rents and dwellings. Rents did rise a robust 1.2% in the quarter, but this is a step down from the 1.6% increase last September, 2.0% last June and 2.1% last March. The 0.6% increase last December was due to the maximum assistance from the Commonwealth Rent Assistance being increased by 10% on 20 September 2024. The annual pace of rental inflation is now down to 5.5%yr from 6.4%yr in December and a March 2024 peak of 7.8%yr.

This also has an impact on services inflation as the slower pace of services inflation in the March quarter was driven by moderating price growth for insurance and rents. Services inflation was 3.7%yr in March, down from 4.3%yr in December and a recent peak of 4.6%yr at September 2024. Market sector services, which is our preferred measure of domestic inflationary pressure, fell –0.1% in the March quarter, the first quarterly decline since June 2020. This took the annual pace down to 3.3%yr from 4.2%yr in December. This is the slowest pace of market services ex volatile inflation since March 2022. We had been expecting this measure to moderate as wages undershot expectations through 2024.

Dwelling prices fell –0.4% in March following a –0.2% fall in December taking the annual pace of dwellings inflation to 1.4%yr. Dwellings inflation peaked at 20.7yr in September 2022. The ABS notes that the moderation in dwellings inflation reflects project home builders increasing incentives and promotional offers to entice new business in a subdued new home market.

Compared to our expectations the main variations in the components of the CPI were:

• Food increased 1.2% vs 1.0% expected (+0.02ppt). The main contributors to the rise were fruit & vegetables (+2.8%), meals out & take away foods (+0.6%), non-alcoholic beverages (+3.2%) and food products n.e.c (+1.6%). Most of our error was with fruit & vegetables.
• Clothing footwear fell –0.8% vs –0.4% expected (–0.01ppt). The main contributors to the fall were garments (-1.1%) and footwear (-3.7%), driven by post-Christmas and back to school sales.
• Household contents & services fell –0.9% vs –1.1% expected (+0.01ppt). Furniture (-5.5%) was the main contributor to the fall, driven by post-Christmas sales on bedroom furniture. There was a partial offset from child care (+2.4%).
• Health rose +2.9% vs 2.5% expected (+0.03ppt). Medical & hospital services (+2.7%) and pharmaceutical products (+5.3%) rose because of the cyclical reduction in the proportion of consumers who qualify for subsidies under the Medicare Safety Net and Pharmaceutical Benefits Scheme (PBS). The safety net thresholds for both the PBS and Medicare are reset on 1 January each year.
• The most significant variation to our estimate was in recreation which recorded a –1.6% fall compared to –2.4 fall expected (0.10ppt) of which most was due to a smaller than expected fall in holiday travel: –3.6% vs –5.3% expected (0.11ppt). International holiday travel & accommodation (-7.6%) was the main contributor to the fall due to lower demand following the peak December holiday period.
• Education was a touch stronger at 5.2% vs 5.0% expected (0.01ppt). Secondary education (+6.4%) and preschool & primary education (+5.6%) rose reflecting fee increases at the start of the school year. The rises were driven by higher operating costs that were passed through as higher school fees. Tertiary education rose 3.6% due to the annual CPI indexation being applied to university course fees at the start of the year. This was partly offset by soft growth in TAFE fees as the federal government, in partnership with state and territory governments, continued fee-free TAFE places in 2025.