Market Brief: Markets Stabilise Even As Economic Pessimism Grows

Markets are finding a firmer footing this morning after intensifying worries about the US economy’s trajectory weakened the dollar and drove yields and equity bourses lower in yesterday’s session. Today's data calendar looks relatively quiet, but this afternoon's Nvidia's earnings release could move markets, and political developments will continue to occupy centre stage.

A widely-watched measure of consumer confidence dropped at the fastest monthly rate since August 2021 earlier this month, suggesting that uncertainty about the Trump administration’s policies is contributing to a rising sense of alarm among Americans. Data released yesterday morning showed the Conference Board’s confidence index sliding by 7 points to 98.3 in February, missing all market estimates as a broad range of age groups and income categories turned more pessimistic. The expectations sub-index—which measures the outlook for the future—dropped 9.3 points to 72.9, falling back below the 80 threshold that often foreshadowed recessions before the pandemic. Economists with the Board said "There was a sharp increase in the mentions of trade and tariffs, back to a level unseen since 2019. Most notably, comments on the current Administration and its policies dominated the responses.”

Expectations for the Federal Reserve’s policy trajectory have been thrown into reverse. After a series of downbeat employment and consumer sentiment numbers in recent weeks, futures traders now have at least two rate cuts priced in before year end—up from just a single move a few weeks ago—and the benchmark federal funds rate is seen falling to 3.5 by the end of 2026, substantially below the 4 percent that had been expected in mid-December.

Congressional Republicans last night passed a budget resolution that could reduce growth headwinds, but will also significantly worsen the US fiscal trajectory. The bill, which will now go to the Senate for further negotiation, proposes around $2 trillion in budget cuts over the next decade—with the bulk of the adjustment likely coming from the Medicaid and food stamp programmes—but entirely offsets these through an extension of tax cuts that will reduce revenues by $4.5 trillion, along with hundreds of billions in spending increases on the military and border security.

US deficits will remain truly exceptional in both absolute and relative terms, keeping global imbalances in place. Estimates from the non-partisan Committee for a Responsible Federal Budget show that the plan would add at least $2.8 trillion to deficits through 2034—or $3.4 to $4 trillion of debt including interest costs—pushing debt held by the public up to 125 percent of gross domestic product, compared with 117 percent under current law. Deficits are seen averaging 6.8 percent of gross domestic product over the next decade—compared with 5.8 percent under current law—roughly three times higher than the developed-world average, and remarkable for a country that is not embroiled in a major war.

The Canadian dollar continues to act as a proxy for tariff expectations, suffering turbulence as conflicting signals from the Oval Office leave market participants uncertain on the Trump administration’s trade intentions. The exchange rate fell during yesterday’s session after the US president on Tuesday suggested that tariff plans were “moving ahead,” but trimmed its losses when the White House told the CBC’s Alex Panetta that Trump was referring to reciprocal tariffs, not the near-universal 25-percent levies on Canadian and Mexican products that are purportedly set to begin after March 4. Reciprocal tariffs could be absurdly difficult to put into practice—some estimates indicate that the government would need to manage 2.6 million individual tariff rates—terrible for consumers, and extremely costly for almost every business trading across American borders, but shouldn’t pose a material threat to the Canadian economy, given that trade barriers against US imports are already extremely low. According to an analysis done by the Yale Budget Lab, tariffs on Canada would increase by 4.59 percent, well below levels seen in other countries.

The euro is holding near the psychologically-important 1.05 threshold on hopes that new German chancellor Friedrich Merz will succeed in reforming the country’s fiscal “debt brake” and delivering a massive defence spending boost before a new Bundestag is sworn in next month. A workaround to Germany’s constitutional spending limit—which caps the structural deficit at 0.35 percent of gross domestic product—would require a two-thirds majority in parliament, but could be executed if mainstream parties can agree on a framework before the far right and far left gain veto power in a few weeks. According to reports from Bloomberg and others, Merz has proposed a 200 billion-euro surge in funding to the armed forces—a sum that would, as a share of gross domestic product, lift German defence spending well above the NATO 2 percent target, at least temporarily. Policymakers across Europe are moving to increase military readiness after the Trump administration began to explicitly remove the Continent’s US security umbrella in recent weeks, sidelining other countries in opening negotiations with Moscow over the future of the war in Ukraine, and allying with Russia and other autocracies in voting against a key resolution in the UN General Assembly.

*Apologies for the super-long paragraph structure this morning. I either had too much coffee while writing, or not enough : )

Economic Calendar