First Xi Trip in 5 years to prevent new Cold War

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In this publication:

• Market awaits US CPI release next Wednesday as Fed regional heads maintain hawkish stance

• Sweden's first rate cut in 8 years; UK is set to cut next month

• Equity markets remain subdued but S&P approaches all-time high

• Oil markets gripped by Middle East turmoil

• Macron seeks Chinese support to end war in Russia

Let’s dissect

Markets Snapshot

Bond Markets and FX

• US: Neel Kashkari, Minneapolis Fed president, signaled that interest rates will hold steady for an 'extended period' until inflation meets the Fed's 2% target, but he also did not rule out a hike if inflation stalls near 3%. He is especially concerned with the housing inflation.

• His colleague, Boston Fed President Susan Collins, continued the hawkish stance on Wednesday, stating that it would take longer "than previously thought" to bring inflation down. Collins believes that improvements in supply chains, which helped quickly cool inflation last year, may not continue this year. She suggests that slower economic growth will be necessary to reduce demand and, consequently, inflation. The U.S. dollar strengthened after the Fed officials' commentaries. These commentaries from FED regional presidents come after the Fed’s Open Market Committee (FOMC) decided last week to maintain its benchmark rate in a range of 5.25%-5.50%, which stands as a 23-year high, at the conclusion of its two-day policy meeting.

• The yield on the benchmark 10-year U.S. Treasury note closed the week relatively unchanged at 4.5%. However, market sentiment is poised for potential shifts with the release of the US Consumer Price Index (CPI) data on Wednesday. Economists polled by Reuters anticipate a 0.3% increase in April, translating to an annual rise of 3.6%. A resurgence in inflation indicated could drive up both the dollar index and Treasury yields. Presently, the implied probability of a 25 basis points rate cut during the Fed FOMC meeting in September stands at 48%.

• UK: The BoE’s Monetary Policy Committee voted 7-2 to maintain the benchmark rate at 5.25 per cent on Thursday, holding it at a 16-year high. The decision comes amid inflation remaining above the Bank's 2% target at 3.2%. However, Andrew Bailey, the bank’s governor, hinted at a potential downward adjustment as soon as the June meeting.

• In updated language, it stated that the MPC would “consider forthcoming data releases” — referring to inflation and job figures — in assessing whether “the risks from inflation persistence are receding”. This data is scheduled to be published before the MPC’s next meeting on June 20. Such language implies a strong likelihood of a rate cut on June 20, contingent on next month's data release.

• EU: Sweden’s central bank, Riksbank, made its first interest rate cut in eight years on Wednesday, reducing its main interest rate by 0.25 percentage points to 3.75 per cent. This marks the first time it has loosened policy ahead of the US Federal Reserve this century.

• The Swedish rate cut, along with recent similar moves by the Swiss, Czech, and Hungarian central banks, underscores the divergence of EU countries that are not part of the EU monetary union from the US on rate-setting policy. We previously discussed that slower growth in the euro area and lower inflation make the case for the ECB to cut rates earlier than the US.

• The ECB is anticipated to cut interest rates by a quarter point on June 6, further confirming the divergence between the Old Continent and the US. If European rates fall faster than in the US, however, it could cause Euro and other European currencies to depreciate against the dollar, driving up import prices and stoking inflation.

Equity Markets

• The S&P 500 Index approached its all-time high again, closing the week at 5223, marking its third consecutive week of gains. Other major indexes also saw increases, with the Dow index rising by almost 2%. Market trading volumes were notably low throughout much of the week, reflecting a light and uneventful economic calendar.

Commodity Markets

• Oil: Oil prices declined by almost $1 per barrel on Friday following more hawkish comments from U.S. central bank officials . Brent crude futures settled at $82.73 a barrel, down $1.09, or 1.3%, while U.S. West Texas Intermediate crude settled at $78.26 a barrel, down $1.00, or 1.3%. Rising U.S. fuel inventories ahead of the summer season also exert downward pressure on oil prices. The oil market continues to experience volatility, influenced by geopolitical tensions in the Middle East and speculation regarding future OPEC+ supply adjustments.

Geopolitics

Xi Jinping’s European Tour

• During his first tour through Europe in five years, Chinese leader Xi Jinping urged French President Emmanuel Macron to help Beijing fend off a "new Cold War" with the European Union. Despite warnings from Washington, Xi Jinping aimed to bolster ties and convince Europeans of the economic opportunities China offers. Meanwhile, the Biden administration is poised to announce a significant decision on China tariffs, expected to target key strategic sectors with new levies.

• However, concerns about China's relationship with the Kremlin amid Russia's war in Ukraine and Western complaints about Chinese overproduction persisted throughout the trip. China countered these claims arguing that its efficient production, not subsidies, drives down the prices of products like electric cars and solar panels.

• In response, Emmanuel Macron urged China's Xi Jinping to leverage his influence to persuade Russia to end the war in Ukraine. The French President also seeks China's engagement in dialogue with Kyiv. Zelenskyy has repeatedly requested a meeting with Xi, even after the Chinese leader's recent visit to Moscow to meet with Russian President Vladimir Putin.

• The EU and China clash on multiple fronts, from Russia's war in Ukraine to global trade. Brussels shows growing distrust, with a spike in arrests of alleged Chinese spies and a surge in trade probes. China's "no limits" friendship with Moscow helps Russia defy US-led sanctions. European Commission President Ursula von der Leyen, who also saw Xi on Monday, stated after the meeting that the EU is ready to utilize all available tools to safeguard its economies if China does not provide fair access to its markets.

Our thoughts

• Russian President Vladimir Putin recently announced plans to visit China this month. The significance of Chinese companies refraining from supporting the Russian war effort could be a decisive factor in halting the conflict. Despite China's official stance of neutrality in the war, Russia maintains its production and defense industrial base, primarily by replenishing its military stock as well as microelectronics and other technology from China and Iran.

• France's diplomatic influence, while challenging to evaluate, could prove instrumental in urging China to apply pressure on Russia, particularly if the EU offers more strategic and economic benefits to China than Russia does. That being said, we don't anticipate a change in the status quo following Xi Jinping's EU tour. Even if Ukraine and Russia were brought to the negotiation table, neither side has much to offer. With Russia's upper hand and Ukraine's determination to fully liberate its territory, there's little room for compromise.

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