As SocGen's Kit Juckes noted earlier in the week, "The ECB, not The Fed, is in the driving seat," and nowhere is that more optically obvious than in the massive divergence between US-EU bond risk premia and US-EU inflation surprises.
The FOMC’s intent to raise rates in June is clear and reflected in market pricing. But the commitment to any particular forecast of where rates are heading is less clear and seems secondary to a desire to hit the 2% inflation target. With President Trump’s program stalled, the dollar is lacking domestic policy drivers and FX markets are more susceptible to policy elsewhere. This is good for the euro, and possibly for oil-sensitive currencies, and is carry friendly (yen negative) too.
Furthermore, as Reuters noted, recent U.S. inflation readings have returned to their long-term trend of underperforming against forecasts after a brief run of upside surprises earlier this year.
Meanwhile, inflation reports from Europe have topped expectations by the widest margin on record. The rest of the so-called Group of 10 largest developed economies are meanwhile beating forecasts by the most since the financial crisis nearly a decade ago, even after taking into account the drag from U.S. numbers. Even Japan, notorious for its decades-long struggles against deflation, is posting inflation data notably above forecasts.
The inflation "surprise" gap between the United States and Europe has never been wider...
And, as the chart above suggests, that is bad news for The ECB as they appear to be all that stands between a collapse in the German Bund market and today's 'nirvana.
As SocGen notes, there’s a sense that while the Fed is committed to raising rates next month, it is more committed to hitting its inflation target than to any particularly ‘terminal’ fed funds forecast. Absent progress on meaningful tax cuts or upside surprises in either growth or inflation, the outlook is calm, or dull, depending on your point of view. That’s not particularly bad for the dollar, but rather it means that the big FX drivers are not as US-centric now.