July 10 – Inflation and a sluggish Chinese economy are the focus for Wall Street this week, with an eye toward the next Federal Reserve meeting in two weeks. We’ll get updated consumer price data on Wednesday, and producer price data on Thursday, that may weigh heavily on the Fed’s next rate hike decision. The VIX is trading near 15 this morning – not indicating any panic on Wall Street, but it is certainly elevated from levels seen late last month. The dollar index is trading near 102.5 this morning, after dropping sharply on Friday’s jobs report. Yields on 10-year Treasuries are trading near 4.06% this morning, while yields on 2-year Treasuries are trading near 4.93% after pushing above 5% and trading to 16-year highs late last week. Crude oil prices are trading modestly lower this morning on the weaker Chinese economic data, while the grain and oilseed markets were mixed to sharply higher.
The soft-landing debate for the economy heated up on Friday with the latest jobs report that showed a tightening labor market at a time when the housing market is starting to warm up as well. Core inflation is expected to remain above 5% in this week’s data, with housing prices ticking higher again amid a shortage in supply and a rise in consumer sentiment. We’re seeing early signs of the Fed’s monetary tightening having the desired effect of slowing the economy, but we’re also seeing signs that the Fed has not yet done enough. Fed members want to give their policy time to work, but they also do not want to give inflation a tighter grip on the economy by being too slow to respond. The overwhelming majority of consumer home loans are less than five years old at very low interest rates. That gives them some staying power, while keeping the supply of housing very tight as new buyers continually come on to the market. Consumer sentiment is rising as job loss fears are declining and wages are going up. These represent major components for core inflation, which is expected to remain above 5% in this week’s data, far above the Fed’s 2% mandate. These are factors behind our comments two years ago stating that inflation was far more than transitory, but the Fed continued to stimulate another eight months before slowly starting to tighten.
China’s consumer price index contracted 0.2% month-on-month in June, while it was flat year-on-year, raising the risks that China could slide into a damaging deflationary cycle. China’s core CPI that excludes the more volatile food and energy sectors declined 0.1% month-on-month, while being up 0.4% year-on-year. China’s producer price index ex-factory was down 5.4% year-on-year in June, although that was partially due to a high base a year ago when prices surged early in the Ukraine war. Nonetheless, today’s data raises more warning flags for the Chinese economy. Of particular interest, clothing prices are seen as a measure of consumer sentiment. They fell 0.2% month-on-month in June. Furthermore, prices for transportation and household goods and services fell 0.5% month-on-month in June, also raising concerns about consumer confidence in China’s economy.
Weather risks are also rising in China, regarding its crop production necessary for sustaining its food supplies. Temperatures are expected to remain above 95°F across much of the rice belt of southern China over the next 10 days, while rising above 104°F in parts of Hunan, Jiangxi, Zhejiang, and Fujian provinces. The prolonged heat raises production and quality risks for the maturing rice crop that is in the critical reproductive phase currently. Heat is also a risk for corn production in some northern areas of China, although some beneficial showers are expected in the region over the next several days. Those rains will be critical to ease stress on corn and soybean crops enduring triple-digit heat. Unfortunately, some parts of Heilong Jiang and Jilin provinces – main corn and soybean producing areas – face increased flooding risks with heavy storms.
There is just one week left in the current Ukraine grain initiative, although Ukraine and Turkey are talking about a possible two-year extension. Yet, Russia doesn’t even appear interested in talking at this point, as the last of the ships at the ports are loading and preparing for departure, with no new ships entering the ports. Look for Ukraine to shift to its “Plan B” at some point soon, but it’s yet to be seen whether shippers will be willing to take the risk or not, and if so, at what pace. The primary question then will be, how will Russia respond?
Additional improvement is expected in the U.S. corn and soybean crop ratings when USDA releases its weekly crop progress and condition report this afternoon, with very mild temperatures continuing across much of the Midwest this week. The week #2 outlook warms up and dries out, as the corn crop moves deeper into pollination, putting more importance in seeing how week #3 plays out. The soybean balance sheet has zero margin for error following USDA’s shocking acreage reduction on June 30, although the rise in prices is certainly changing Brazilian farmer planting decisions for the coming season. Yet, it’s still difficult to contrive a bullish corn scenario following USDA’s acreage increase, unless the above Chinese crop stress turns out to be much worse than currently perceived.
