Will the market be able to continue to maintain the dovish narrative despite the lack of significant progress on inflation?
In my opinion, yes, but it will be spread over the next months. Currently, two narratives are clashing:
1) strong current data on economic activity (see Figure 1 - Q2 GDP tracker and growth forecast above 3.5%!) and basically “no progress" in the fight against inflation (see Figure 2 - US Core Services Less Housing, i.e. the most important part of inflation according to the head of the FED, accelerated to 4.85% YoY, fortunately monthly changes are slowing down slightly),
2) a weaker labor market in the US, especially since May 3, when we got the data for April (see Figure 3 - quits rate vs wage inflation), and the "hope" related to inflation that at least it finally no longer surprises above market expectations - which occurred in the previous 4 months - see Figure 4.
In the case of inflation, the part related to rents has not yet started to weaken significantly - and this is good news (see Figure 5) - as this weakening is still ahead of us (and is part of the "market hope" regarding future lower inflation).
All-in-all, the market should be most influenced by the forthcoming monthly reports from the labor market (next ones on June 7, July 5, August 2), and monthly CPI inflation data (next data on June 12, July 11, August 14). These data should have a dovish tendency and may maintain “market hope”.
At the same time, to some extent, the first narrative, i.e. a strong economy and hot inflation for longer, may be ignored by the market (as lagged data in the cycle).
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