Dollar forecast dims further amid weak NFP data: Forex Friday

Dollar forecast: Following a weaker US jobs report, we saw the dollar drop across the board, before returning to pre-NFP levels and then turning positive. Investors were probably left wondering how much of the weakness was already priced in and as enthusiasm for 50 basis point cut faded after Fed’s Williams played it safe during his speech. Fed’s Waller was due to speak later. Meanwhile, bond yields also recovered after initial dip, and gold came off its highs after it had closed in on a new all-time high earlier in the day. Stock indices rebounded in initial response but let’s see if they will be able to hold onto their gains as we head into the US session. Investors are now completely unsure whether the Fed will opt for 25 or 50 basis points rate cut. US CPI next week is the last major release before the FOMC’s meeting on September 18, and this may well be the deciding factor.

NFP was quite weak – Fed cannot wait any longer to cut

Despite the uptick in wages, this was a rather weak jobs report. Not only did the headline data show only a modest +142K rise in nonfarm jobs in August (vs. +165K expected), revisions reduced reported employment for June and July sharply - by a good 86K.

So, the non-farm payrolls data was a lot weaker than expected when you take revisions into account, suggesting the jobs market is cooling more than expected, in line with other labour indicators released earlier this week. While August was weak, the revision to the already-week July report meant employment only grew by 89,000 that month. This was the weakest jobs report since the days of pandemic in December 2020. What’s more, private-sector hiring is now averaging just +96,000 over the last three months, falling from a 3-month average of 146,000 in July. This is alarming. With the jobs market softening more than expected, the Fed cannot and should not wait any longer to cut rates.

The only positive note for the dollar was that average earnings came in stronger. They rose 0.4% on a month-over-month basis compared to 0.3% expected. Wages remain relatively strong, but the Fed’s focus is shifting to a slowing jobs market. A September rate cut is now fully priced in – but questions remain as to whether it will be 25 or 50 basis points. Next week’s CPI report should give us a conclusive answer.

Dollar index could drop to 100

Source: TradingView.com

Given the lower lows on the Dollar Index and the weakness in labour market, I can’t see a compelling reason why the DXY cannot fall further in the days ahead. A drop to 100.00 looks like from here. At the time of writing, it was testing potential resistance around 101.35ish area.

Dollar forecast: Week ahead

In the week ahead, we have some important data releases from around the globe, as well as a rate decision by the European Central Bank. Following this week’s data releases, we maintain a bearish dollar forecast heading into CPI releases. The market is 50-50 in terms of the scale of the rate cut. The Fed will want to avoid causing a major dollar move when it meets in the following week, so we could see some comments to guide the market to either 25 or 50 basis points rate cuts.

Anyway, here are the three key macro events to watch next week:

UK wages

Tuesday, September 10

Strong wage growth in the UK is among the reasons why we have a split Monetary Policy Committee at the Bank of England, and a relatively strong pound. At the MPC’s August 1 meeting, 4 officials voted to hold rates unchanged but were outnumbered by the 5 who voted for a cut. Whether or not more officials will turn dovish will be determined by incoming inflation and wages data. As well as Average Earnings Index, we will also have some jobs data released at the same time Wednesday.  UK GDP is due a day later, before attention turns to UK CPI and BoE’s next rate decision in the following week.

US CPI

Wednesday, September 11

With US CPI on course to dropping towards the Fed’s target, Powell has already given the green light for cutting interest rates at the September 18 FOMC meeting. This CPI report will be the last major data release before that meeting to help rate-setters whether to go for 50 or opt for the standard 25 basis point cut. It will thus garner a lot of attention – especially if we see a sharp deviation from the expected figure. Inflation slowed for a fourth month to 2.9% y/y in July, falling to the lowest since March 2021. In August, it is expected to drop even further to 2.6%. Core CPI is expected to remain unchanged at 3.2% y/y.

ECB rate decision

Thursday, September 12

The European Central Bank is unlikely to respond to the weakening euro-zone economy by cutting interest rates faster, according to analyst consensus. The ECB is set to follow June's 25 basis point rate cut with another similar reduction on Thursday. The Eurozone faces slow economic growth and persistent inflation, with Germany, the region's largest economy, being the biggest drag due to manufacturing struggles and cautious consumer spending. Against this backdrop, the market is not too hawkish on the ECB.

-- Written by Fawad Razaqzada, Market Analyst

Follow Fawad on Twitter @Trader_F_R

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