Weekly house view | Debt ceiling: the clock is ticking

Softer-than-expected US inflation numbers last week belie stubborn underlying price pressures in the United States – a dynamic that makes us believe the Fed will pause but not cut rates this year. The modest rises in producer prices and core services costs, which rose just 0.1% on the month, contrasted with an acceleration in long-term inflation expectations to a 12-year high. Some Fed officials signaled they may need to do more. There are growing signs their policy tightening is biting: the University of Michigan’s May consumer sentiment index came lower than expected and hit its lowest since last November. On the corporate front, Disney and Airbnb both posted disappointing earnings reports last week, and the latter could be an indication the travel sector has started to slow. We will be watching U.S. retail sales data this week closely. Negotiations over the U.S. debt ceiling raise the prospect of one source of uncertainty for markets being removed – though cautious expectations management is warranted given the divisions between the White House and Republicans. The issue is pressing: The US Treasury Department said on Friday it had just $88 billion of extraordinary measures to help keep the government’s bills paid as of May 10 – down from some $110 billion a week earlier. We are underweight US equities. This week will see some big issuance of investment grade quality bonds; we like short-duration investment grade.

In Europe, the Bank of England’s rate rise last week – to 4.5% from 4.25% – is an indication that central banks are digging in for the inflation fight. We see signs of resilience in the UK economy and are raising our 2023 GDP forecast for the UK to +0.1% from -1.0%. In Turkey, Recep Tayyip Erdogan and rival Kemal Kılıçdaroğlu are locked in a tight race for the presidency, which could go to a second round, bringing uncertainty to markets in the short term. Separately, the G7 announced a $15.6 billion commitment to Ukraine over four years and a new trade partnership to try to counter Chinese influence.

In China, headline CPI inflation in April slowed further to 0.1% year-on-year from 0.7% in March, and PPI inflation also slowed to -3.6% year-on-year in April. The latest inflation readings continue to point to soft domestic demand in China as the economic recovery remains uneven and its pace moderate. Moreover, China risks facing structural challenges if ‘friend shoring’ continues – a trend that was already in evidence in Q1. In a further sign of political tussling for economic power, Italy is thinking about leaving Beijing’s Belt and Road initiative, which Washington and Brussels rebuked Rome for joining in 2019, and Europe is offering trade arrangements to countries that are currently part of the Belt and Road.