Dollar’s recovery proves short lived as fiscal worries prevail

House passes Trump’s bill, US data support the dollar

The US dollar rebounded on Thursday, gaining against most of its major counterparts after President Trump’s bill for massive tax cuts and spending was approved by the House of Representatives.

This may have been a ‘buy the fact’ reaction as investors fled out of US assets beforehand on concerns that the bill is set to add to the country’s ballooning debt pile. The bill is now expected to be debated on for weeks in the Republican-led Senate.

What may have also helped the dollar gain some ground were the better-than-expected US PMIs, which revealed that business activity improved in May, perhaps due to the truce in the Sino-US trade conflict. A slide in initial jobless claims for last week may have also added some support as it indicates the labor market remains resilient. That’s maybe why investors continued to pencil in only 50bps worth of additional rate cuts by the Fed this year.

Risk aversion returns as fiscal anxiety remains elevated

Having said all that though, the greenback is on the back foot again today, while gold is on the rise again, which means that concerns about the impact of Trump’s bill have not disappeared, although Treasury yields have somewhat pulled back.

A ballooning debt could crowd out private investment, which could thereby slow down economic growth, and more importantly, it could limit the government’s ability to respond to crises with spending. Even if the Fed comes to the rescue through its liquidity channels, its actions could lead to an even weaker dollar and higher inflation. Higher inflation may require higher interest rates, which could translate into further advances in Treasury yields, making it even harder for the government to repay its debt.

Wall Street closed slightly higher yesterday, perhaps as the upbeat US data allowed investors to somewhat increase their risk exposure, but today, stock futures are pointing to a lower open, corroborating the notion that the focus has shifted from tariffs to fiscal risks and this is causing a lot of nervousness in the market.

Bitcoin marched to a new record high at around 112k, in a sign that investors continued to seek out alternatives to US assets.

Oil extends slide on OPEC headlines, Japan’s inflation accelerates

Oil prices extended their slide on Thursday after a Bloomberg report said that OPEC and its allies are considering another large production increase at their upcoming meeting on June 1. The report comes on top of the announcement of a new round of nuclear talks between Iran and the US, which offset the risk premium that was added due to the concerns of an Israeli attack.

Flying to Japan, the headline CPI rate remained unchanged at 3.6% year-over-year, but the core rate jumped to 3.5% from 3.2%, corroborating expectations that the BoJ may hike interest rates by another 25bps before the end of the year. According to Japan’s Overnight Index Swaps (OIS) market, that probability stands at around 60%.