US tariffs unsettle the markets while the UK's may GDP unexpectedly contracted

Overview: The US 35% tariff on Canada and President Trump's threat to have a 15%-20% universal tariff rather than 10% provides today's disruption. A tariff letter for the EU is awaited but seeing how the US treated Canada and Brazil (with whom the US has a trade surplus) warns of the risk to Europe. That said, the full details of the tariff threat on Canada, given the free-trade deal, have not been reported yet. The dollar is firmer against the G10 currencies. The backing up of US rates arguably helped push the yen to the bottom of the leaders' board with a 0.5%-0.6% loss. The Canadian dollar is at a new low for the month and is off about 0.35%. The UK economy unexpectedly contracted in May, the second consecutive month. Sterling is off around 0.25%. Most emerging market currencies are lower. The Chinese yuan is a notable exception after the PBOC set the dollar's fix at its lowest level since last November. 

Most of the large bourses in the Asia Pacific region advanced. South Korea, Australia, New Zealand, and India were exceptions. Europe's Stoxx 600 is snapping a four-day advance and is nursing a 0.85% loss, which if sustained, would be the largest in nearly a month. US index futures are off 0.5%-0.6%. Benchmark 10-year interest rates are up 2-3 bp in Europe, even UK Gilts, and are mostly 8-10 bp higher on the week. The 10-year Gilt yield is up about 3 bp this week. The 10-year US Treasury yield is up a little more than three basis points today, and around 4.38%, is nearly flat on the week. Gold is higher for the third consecutive session. It stalled near the week's high set Tuesday near $3345. News that Saudi output was greater than expected may be helping keep August WTI pinned near yesterday's low (~$66.45). 

USD: The Dollar Index met the (50%) retracement objective of the loss from the June 23 high yesterday found near 97.90. It posted an outside day yesterday, trading on both sides of Wednesday's narrow range. It is trading inside yesterday's range so far today. The next retracement objective (61.8%) is around 98.25. The trendline, drawn through the March, April, May, and June highs, is found closer to 98.30 today. The June federal budget deficit will be reported today. Through May, the first eight months of the fiscal year, the US recorded a deficit of almost $853 bln ($741 bln in the year ago period). The June shortfall is expected to be around $33-$34 bln, around half of the June 2024 deficit. Of course, the tariff, like other taxes, is raising revenue but it comes at a cost. The price of imported goods that are tariffed are rising, even if some foreign producers are accepting narrower profit margins in the first instance, ostensibly to maintain market share. Domestic producers whose foreign competition face tariffs also appear to be raising prices. Still, the OECD projects a 7.5% budget deficit this year, rising to 8.1% next year. The White House may be mistaken if it thinks that replacing Chair Powell would by definition put the central bank on a rate cutting path. There have so far been few dissents under Powell's leadership. Imagine a dovish Fed chair being outvoted by FOMC. Former Bank of England Governor King was outvoted twice on rate decisions. It seems unprecedented in the US. But in the July 1992 FOMC meeting, four regional presidents dissented in favor of more aggressive easing. In early 1993, the challenge came from the other side. A group of governors (Angell, Philips, and Lindsey) reportedly informally discussed voting against Greenspan (dovishness at the time). Some link Angell's resignation in February 1994 to the internal dynamics at the Fed. Still, we suspect that by the time President Trump nominates a successor to Governor Kugler (terms ends in January), the Federal Reserve will be poised to resume its easing cycle and may also be considering winding down QT.

Euro: The euro posted an outside day yesterday, trading on both sides of Wednesday's range but it settled inside the range. It reached a two-week low slightly below $1.1665, which it has re-tested today, while mostly holding below yesterday's settlement, a little above $1.1700 (1.7 bln euros of options expire at $1.17 today). Nearby lies the 20-day moving average (~$1.1660) and the (50%) retracement of the rally from June 23 (~$1.1640). The euro has not settled below its 20-day moving average for nearly two months. President Trump signaled that the EU would receive its tariff letter shortly. 

CNY: After poking above CNH7.1880 on Wednesday, the dollar pulled back to CNH7.1760 yesterday and, encouraged by the lower reference rate today, fell to about CNH7.1670. It appears to have found a comfortable range for the moment: ~CNH7.15-CNH7.19. It has not traded above CNH7.20 for a month. The greenback settled last week near CNH7.1635. The PBOC set the dollar's fix at CNY7.1475 (CNY7.1510 yesterday and CNY7.1535 last Friday). It is a new low for since last November. Early Monday, China is expected to report the June trade figures. The trade surplus is expected to have risen from about $103.2 bln to around $113 bln. The record was set in January (~$138.4 bln). It may be the fourth month in the first six months of 2025 that more than a $100 bln monthly surplus is reported. On as year-over-year basis, Chinese exports rose by an average of 6% in 2024 after falling by an average of 4.2% in 2023. In the first five months of 2025, Chinese exports have risen by an average of 5.6% year-over-year. Imports rose by 1.3% year-over-year on average last year after declining by an average of 5.3% year-over-year in 2023. In the first five months of this year, imports fell at an average year-over-year pace of 4.6%. China exports a little less than 20% of GDP, which is not high by international standards, and that includes foreign companies that use China as an export platform (estimated to account for around 30% of China's exports). 

JPY: The dollar fell to a marginal new three-day low yesterday near JPY145.75. The low was set in local trading before the greenback climbed to set the session high as European markets were closing near JPY146.80. True to the recent pattern, the US 10-year yield also rose by about five basis points from the low set in the Asia Pacific session (4.32%) and peaked near 4.37% near the close of European markets. The yield pulled back and extended after the solid if not spectacular 30-year bond auction and the US dollar finished little changed on the day. The dollar returned to the week's high (almost JPY147.20) today, arguably helped by the continued recovery in US rates. The 10-year Treasury is up three basis points to approach this week's high. Japan's own 20-year bond auction today was unspectacular. Demand (bid-cover) was 3.15, below the 12-month average, though still the best since March. Japan's 30-year bond yield jumped almost 20 bp this week (to 3.06%), and the 40-year yield, which fell for the third consecutive session today, rose 22 bp this week. 

GBP: Sterling posted an outside day yesterday and it closed well within Wednesday's range. It again tested the $1.3530 area it saw on Tuesday well, which corresponds to the (61.8%) retracement of the rally since June 23. Still, it settled lower for the fifth consecutive session. It frayed the support marginally today after the GDP disappointment. Instead of growing by 0.1%, the UK economy contracted by as much in May after shrinking by 0.3% in April. The decline in industrial output and manufacturing production accelerated. Industrial production fell by 1.0% (-0.6% in April), led by a 1.0% drop in manufacturing (-0.7% in April, initially reported at -0.9%). Services activity expanded by 0.1% after contracting by 0.3% in April. The trade deficit narrowed (~-GBP5.7 bln vs a revised -GBP6.5 bln in April). Ahead of next week's CPI and employment report, the swaps market remains confident of a BOE rate cut next month (~90% vs. ~86% a week ago).

CAD: The US dollar stalled at the (61.8%) retracement of the decline since June 23, slightly above CAD1.37. It set session lows near CAD1.3655 late yesterday. The US tariff threat of 35% was nearly as shocking as Brazil's 50% tariff. Excluding energy, the US runs a trade surplus with Canada. It is also not clear what exception for goods meeting the USMCA domestic content rules. The dollar rose to CAD1.3730, a new high for the month. A move above CAD1.3740 could target CAD1.38. Options for $830 mln expire today at CAD1.3700. Canada reports June employment today and CPI next week. The data must be surprisingly weak into order to revive speculation of a rate cut at the end of the month central bank meeting. The swaps market has less than a 10% chance of a cut at the July 30 meeting and around a 72% chance of a cut at the following meeting (September 17). Canada grew an average of 8.5k full-time positions in a month in the Jan-May period (compared with almost 11.1k average in the first five months of 2024). It grew 89k full-time positions in April and May after losing almost 82k full-time posts in February and March. The unemployment likely ticked up to 7.1%, which would be a new cyclical high (the highest since July 2021). It was 6.4% last June and 6.6% in January 2025. 

AUD: After recording inside trading days on Tuesday and Wednesday, the Australian dollar popped higher yesterday and set a new high for the year a little above $0.6590 late yesterday. It edged up a little further today, while holding below $0.6600 and the broader US dollar gains on the back of the new tariffs, saw the Aussie pull back to almost $0.6555, around where it settled last week. Below there support is seen around $0.6540. 

MXN: After setting a new low for the year, near MXN18.55 on Wednesday, the dollar reached almost MXN18.7060 on Thursday. The session high was set around the time the less dovish minutes from the recent central bank meeting were published, which saw the greenback fall back toward MXN18.6050. The dollar is firm today and pushing against MXN18.70 in late European morning turnover. Nearby resistance is seen in the MXN18.77-MXN18.83 area. Mexico reports May industrial production figures today. The median forecast in Bloomberg's survey calls for a 0.1% dip, which would offset the 0.09% increase in March. In Q1, which is a volatile series for Mexico, it rose by an average of 0.3% a month after falling by an average of 0.85% in Q4 24 and a flat Q3 24 performance. The IMEF manufacturing PMI has not been above the 50 boom/bust level since March 2024, and the S&P manufacturing PMI has not been above 50 since June 2024. The economy contracted by 0.6% in Q4 24 (quarter-over-quarter). before expanding by 0.2% in Q1. The median forecast in Bloomberg's survey sees the Mexican economy still bumping along stagnation, with a 0.1% contraction seen in Q2, 0.4% in Q3 and a flat Q4. On a year-over-year basis, it is consistent with a small decline in output in H2 25 compared with H2 24. Turning to Brazil, initially, the real extended the 50% tariff induced slide. The dollar reached nearly BRL5.6220 before falling to about BRL5.5250. It settled near BRL5.5320 yesterday. The Bovespa's 0.55% loss was the second largest in the region yesterday, after Argentina.