President Trump says there are trade talks with China. Beijing denies it. Around the time the US reported that the world's largest economy contracted slightly in Q1 (0.3% annualized), US Treasury Secretary Bessent said that the effective embargo was shutting down China's economy. The week ended with China's Commerce Ministry statement that it was evaluating US overtures for trade talks, which implies the US caved.

Trump and Bessent's call for lower interest rates will get little attention from the Federal Reserve. With a decent jobs report in hand, the Fed has no incentive to either cut rates or signal that it is preparing to cut. The uncertainty remains thick, but not too thick for the Bank of England, for which the market fully expects a quarter-point cut at the upcoming meeting.

Sweden and Norway's central banks are to hold policy meetings, and both will likely stand-pat. The central bank of Brazil is scheduled to meet and after three consecutive 100 bp hikes, a half-point hike is expected, which would bring the Selic rate to 14.50%.

Last Thursday's price action seemed to lend support to the idea that the dollar had forged a bottom and was set to recover. However, the lack of follow-through despite the employment report seemed to undermine the constructive dollar outlook. Still, given the backing up of US rates, the push against a cut in Q3, the resilient labor market, and the position of the momentum indicators, we expect the dollar's upside correction to continue.

US

Drivers: The seemingly erratic US trade policy continues to sow confusion and uncertainty. President Trump's "Art of the Deal" includes "pivoting" when your adversary does not accede to the initial bold demands. He does not use the word retreat, but whether it was about the firing of Federal Reserve Chair Powell or "playing nice" with China, many investors see it as such.

China says it will consider US overtures for trade talks, but we suspect this is part of the feint and parry taking place, which in this instance essentially accuses the US of blinking first. Some may try to wait out a further scaling back of tariff threats. For other businesses, the uncertainty may paralyze capex and other strategic decisions.

Data: With Q1 GDP behind us, recognizably massively distorted, the focus is on Q2 data, beginning with last week's employment data. April saw a 177,000 rise in nonfarm payroll growth, which was 37,000 more than the median in Bloomberg's survey, while the February and March jobs readings were revised down by 58,000.

Still, the general take away is that the US economy is in what Fed Chair Powell calls a "good place." The market slashed the odds of a June rate cut to about 40% from 70% a week ago. The ISM services report this week signaled downside risks after the weaker preliminary services PMI (51.4 vs. 54.4) regional Fed surveys.

Yet, the Fed and Treasury Secretary Bessent seem to be dismissive of soft survey data. The highlight of the week is the FOMC meeting, which concludes on May 7. While the Fed is highly unlikely to cut rates, the market will focus on forward guidance, which is likely to be sparse given the uncertainty.

Prices: The US and China have raised tariffs to levels that are effectively serving as a mutual embargo. Moreover, the agriculture and energy the US previously supplied have been replaced by other countries, including Brazil and Canada. And, despite the drying up of the container traffic on the West Coast, the greenback appeared to have begun an upside correction in earnest.

However, the setback ahead of the weekend, despite a constructive jobs report, still put it at risk. The Dollar Index settled slightly above the 100.00 mark. A break of the 98.85 area would weaken the technical tone. 

EMU

Drivers: The euro is a beneficiary of the US dollar's decline. It is the un-cola to the dollar's cola. We suspect some of the euro's gains are due to the unwinding of dollar positions and the increase in dollar hedges. The euro's 14% rally from the early February lows left momentum indicators stretched, and a correction appeared to have been triggered by Trump's "pivot" on Powell and greater confidence that a good part of the US tariff threat is a bluster and negotiation tactic.

Still, at the very least, Europe should be prepared for 10% across-the-board tariffs, in addition to some sectoral tariffs. The EU will reportedly present its first trade proposals in the week ahead. 

Data: The March PPI and retail sales are not important given last week's Q1 GDP estimate. Germany reports March factory orders and industrial output figures. In March, the manufacturing PMI rose to 48.3, its best level since August 2022, though it pulled back in April.

Prices: The euro had a strong run, from almost $1.0140 in early February to nearly $1.1575 on April 21. Just when it looked like a correction was unfolding, buyers emerged near the $1.1265 level last Thursday, and despite the rise in US rates, they lifted the euro to new highs after the stronger-than-expected US jobs data near $1.1380. Resistance is seen in the $1.1400-25 area. A break of the $1.1260 level would reinvigorate the downside correction that could extend by two cents. 

China

Drivers: Beijing has defied expectations of a significant devaluation to offset US tariffs. It has maintained stability against the dollar, which we recognize as strategic, not simply tactical. It denies the US of a competitive advantage against it as the dollar weakens. Indeed, the stability against the dollar means that it has depreciated against most other currencies.

The key issue now is how much of the loss of US demand and other countries, where it has outsourced production, will be made up by boosting domestic demand, and how much will deflect the exports to other markets. The more it does with the former, the less antagonism it will draw for relying on the latter.

Data: April’s trade data will draw attention. The US tariffs on China (and others) will likely be evident after efforts to front-run them may have helped bolster March exports. At the same time, observers are remiss if they do not recognize that China is rejecting US goods (canceling Boeing orders), energy, and a variety of agriculture products, including grains and meat.

It has secured alternative supplies, and while this will not boost imports in aggregate, the diversification may earn good will from other countries. Aggregate lending in Q1 25 was 18.5% above Q1 24 levels, and, in April 2024, lending slowed slightly, which was unusual. The IMF revised down its projection for this year's growth to 4.0% from 4.5%.

Prices: The dollar fell sharply against the offshore yuan ahead of the weekend as the greenback sold off broadly. It slipped briefly below the CNH7.21 mark, its lowest level since last November, and it settled near the 200-day moving average (~CNH7.2225). Ahead of the holiday, the dollar closed near the CNY7.2715 level, warning of a possibly significant adjustment when the onshore market re-opens on Tuesday. 

Japan

Drivers: What appears to be the unwinding of the structural short yen position, perhaps as part of leveraged trade where borrowed yen is used to buy other higher yielding or more volatile assets, has seen the correlation of changes in the exchange rate as the US 10-year yield continues to break down. The 30-day correlation was hovering a little above 0.70 earlier this year and now is below 0.15, the lowest reading since early 2023. On the other hand, the 30-day correlation with changes in the Dollar Index is near 0.88, among the strongest in the past decade.

Data: March labor earnings and household spending are the highlights. Adjusted for inflation, Japanese labor earnings continue to fall on a year-over-year basis, and this is one of the factors that may limit consumption. Also, there are, arguably, demographic (aging population) and cultural considerations.

Japan strikes us to be a better candidate than the US for the stagflation scenario. Last week's BOJ meeting resulted in a cut in this fiscal year’s growth forecast from 1.1% to 0.5%, which is in line with the new IMF's World Economic Outlook that put it at 0.6%. The core CPI forecast was shaved to 2.2% from 2.4%. 

Prices: The dollar appeared to have carved out a technical bottom pattern against the yen. It projected toward the JPY148 level. The greenback reached almost JPY146 before the US jobs report, and then it was sold to about JPY143.75. Buyers emerged and sent the dollar back a little above the JPY145 level late in the North American session, arguably helped by the sharp rise in US rates while the swaps market downgraded the chances of a BOJ hike this year. 

UK

Drivers: Sterling appears to benefit more from the US dollar's weakness than optimism about the UK's economic performance. Also, the delay in the reciprocal tariffs that hit the EU harder than the UK will likely keep the playing field more level until July.

Data: The highlight of the week is the Bank of England meeting on May 8. The market is confident that it will deliver a quarter-point rate cut. The rate cut is fully discounted in the swaps market.

The BOE will update its forecast. Growth was seen easing to 0.8% this year from 1.1% last year. It projected growth in 2026 and 2027 at 1.5%. Inflation was forecast to accelerate from 2.5% in 2024 to 3.5% this year, and then to moderate to 2.5% (2026) and then 2.0% (2027). The swaps market has almost 95 bp of cuts priced in for this year. That is three quarter-point cuts fully expected and an 80% chance of a fourth. As recently as late March, not even two cuts were discounted. 

Prices: Sterling set a new three-year high last week near the $1.3445 mark before falling into the $1.3260-65 area in the last two sessions, which seemed to attract new buyers. It looked as if sterling's rally from last month's low near $1.2710 was over, and a possible double top had formed. However, there was not enough follow-through selling ahead of the weekend. Still, sterling settled near session lows. A break of the $1.3235 level would be needed for a confirmation that could lead to another decline of a couple cents. 

Canada

Drivers: Mark Carney has secured his own popular mandate as Canada's prime minister. He brings a gravitas to the office and will help Canada finally diversify from the US. Closer relations with Europe are the obvious steps to take. China is encouraging the fissure and is buying a record amount of oil from Canada as it reduces energy imports from the US.

Data: There are three high-frequency economic reports due this week. The March trade data is probably the least important. It is dated and may be skewed by the activity to build inventories in the US ahead of the tariff bite. The April IVEY may reflect the uncertainty but also the anxiety of Canadian businesses. Still the consumer boycott of US brands and collapse of forward tourist bookings may help underpin domestic demand.

The April employment data at the end of the week is the most important. Canada's labor market has weakened in Q1 25, and this is before the full impact of the US tariffs has been felt. Canada created an average of almost 15,000 jobs a month in Q1 25, about half of the Q1 24 average. More significantly, Canada lost 82,000 full-time posts in the February-March period, the worst since the early days of COVID-19.

In Q1 25, it lost more full-time positions than it gained in Q1 24. Still, the swaps market has downgraded the likelihood of a rate cut at the June central bank meeting, but the CPI readings and the evolution of the financial conditions may be more impactful.

Prices: The US dollar has been consolidating for around three weeks mostly between the levels of CAD1.3800 and CAD1.3900. The lower end was taken out last week. A new, nearly seven-month low was set ahead of the weekend near the CAD1.3765 mark but the greenback closed above $1.38. A move above the CAD1.3860 level would bolster the case for a a technical correction that could extend toward the CAD1.40 area. 

Australia 

Drivers: Prime Minister Albanese is expected to lead the Labor to a second consecutive victory, but this appears to have been discounted for some time. Economic activity has softened, and inflation is moderating. The central bank is expected to accelerate its easing cycle. Australia faces a key challenge as the US pushes countries to choose between it and China.

The US and Australia have a free-trade agreement that went into effect in 2005, and Australia is integrated into the US global security system, including the intelligence sharing of "Five-Eyes" and the US-UK pact to deliver nuclear submarines. Meanwhile, optimism about the possibility of US-China trade talks and the broad weakness in the greenback fueled strong currency gains ahead of the weekend.

Data: March household spending is the highlight of the light economic calendar in the week ahead. Australian households went on a shopping spree in Q4 24, with the largest rise in household spending since Q3 23. Spending appears to have slowed in Q1 25, but it was still relatively strong. We suspect this, along with the still-firm underlying core quarterly inflation readings, will spur the central bank into a 25 bp cut rather than a half-point cut when it meets later this month, for which there has been some speculation.

Prices: The Australian dollar recovered from the mid-week pullback (~$0.6355) to trade at new five-month highs ahead of the weekend near the $0.6470 mark. It traded above the 200-day moving average (~$0.6460) for the first time since last November. It settled near the $0.6435 level. The nearby technical objective is around the $0.6500 mark, and the $0.6550 area is the (61.8%) retracement of the loss from last October's peak near $0.6940. It would take a break of the $0.6350 area to boost the chances of a downside correction rather than a choppy sideways consolidation.

Mexico

Drivers: The peso has been unexpectedly resilient in the face of the volatility unleashed by the uncertainty over US trade policy. It has risen almost 6.0% against the dollar this year, in addition to the interest rate pick-up. It has generated a 9.5% return to dollar investors.

That said, the peso still trades like a risk currency. On a rolling 30-day basis, the correlation between changes in the exchange rate and the S&P 500 is nearly 0.65, which is the highest since late 2023.

Data: Mexico reported April CPI and it looks to have stayed, even if barely, within the target range. Barring a surprise and given the peso's resilience, the central bank is expected to deliver another 50 bp cut when it meets on May 15 (which would bring the overnight target rate to 8.5%). It will not draw much attention from the markets, but Mexico will also report April auto production and exports.

In March, Mexico exported around 87% of its auto production. China, by contrast, exports a little more than 20% of its auto output and is routinely criticized for excess capacity.

There are three basic economic development strategies: import substitution, export-oriented, and entrepot (commercial and financial center, e.g., Singapore and Hong Kong). The entrepot model offers limited potential, especially for large countries and those fairly close to other financial/commercial centers. Mexico was forced into the import-substitution strategy by the disruption of the world wars. And although it was initially preferred by the economists and multilateral institutions, the Asian export-oriented approach delivered superior results. Nearly by definition, the export-oriented strategy requires capacity in excess of domestic demand. 

Prices: The US dollar has been trading in a fairly narrow range in the last couple of weeks around the MXN19.60 level. Given the momentum indicators (turning higher), our bias has been for this to be a base as opposed to a nesting pattern before the next leg down. The dollar rose for the first time in four weeks. It may require a move above the MXN19.75 mark to begin forcing out some of the weak peso longs. 

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