Political Instability in France Shakes Markets, US Economy Shows Resilience

Political Instability in France Shakes Markets, US Economy Shows Resilience 

Political instability in France has once again seized the spotlight as financial markets respond to the anticipated collapse of Michel Barnier's government. The mounting tension has been fueled by Marine Le Pen's RN party, which announced its intention to collaborate with left-wing parties to pass a vote of no confidence against Barnier's administration. This development follows the Prime Minister's controversial decision to bypass parliament by invoking constitutional powers to enforce unpopular social security savings measures. The Euro responded to the political uncertainty by falling 0.75% against the Dollar, while yields on French 10-year bonds rose by 2.1 basis points, defying a broader downward movement in European sovereign yield curves.

In equity markets, the CAC40 in France ended the day mostly flat, while Germany's DAX gained over 1.5%. Across the Atlantic, US stocks experienced mixed performance. The Dow Jones Industrial Average declined by 0.29%, whereas the S&P 500 advanced by 0.29%, and the tech-heavy NASDAQ, more sensitive to changes in interest rates, surged nearly 1%. Market sentiment in the US may have been buoyed by a balanced Institute for Supply Management (ISM) manufacturing report. This report highlighted a decline in the "prices paid" index from 54.8 to 50.3, a rise in "new orders" to 50.4, and an increase in the "employment" index from 44.4 to 48.1, painting a picture of moderate growth without significant inflationary pressures.

The ISM manufacturing data was released alongside a Financial Times article that praised President Joe Biden's industrial policy initiatives, such as the Inflation Reduction Act and the Chips Act. These measures appear to be yielding early benefits for the US manufacturing sector, as evidenced by a surge in foreign investment and a boom in construction activity for new manufacturing facilities. Although manufacturing employment has yet to show significant improvement, data on construction spending for October, released the previous day, surpassed expectations, underscoring the sector's growing momentum.

Adding to the economic narrative, former President Donald Trump issued a fresh warning over the weekend about imposing 100% tariffs on BRICS nations attempting to move away from the Dollar as a global reserve currency. Trump's remarks underscore his belief that his policy approach—offering substantial tax incentives to domestic manufacturers while penalizing foreign production through tariffs—has contributed to the resurgence of American manufacturing. It is plausible that some companies, anticipating a continuation of protectionist policies, chose to hedge their bets by investing in US-based projects rather than relying on a return to a more open trading regime.

The strength of the US Dollar continued to dominate currency markets, with the Bloomberg Dollar Spot Index reaching a peak of 106.73 before retreating slightly in late trading. Despite the Dollar's strength, commodity prices, including crude oil and gold, remained relatively stable. This resilience, coupled with the long wick on the Dollar Index chart, suggests that the recent pullback in the USD may persist a little longer before resuming its upward trend.

In interest rate markets, US Overnight Index Swap (OIS) futures currently reflect a 75% probability of a 25 basis point rate cut at the Federal Reserve's December meeting. This follows comments from Federal Reserve Governor Christopher Waller, who indicated a leaning toward supporting another rate cut. However, Waller also stressed that his decision would be data-dependent, with his primary concern being the possibility that progress on disinflation might be slowing above the Fed's 2% target.

The reassuring drop in the "prices paid" component of the ISM manufacturing report likely tempered market fears about inflation, helping to stabilize rate expectations. Futures markets indicate minimal changes to the anticipated path of the Fed Funds rate since reopening after the Thanksgiving holiday. Pricing for the December meeting suggests a slight increase in the likelihood of further cuts, while projections for the second and fourth quarters of next year show rates slightly higher than last Friday's estimates.

Market participants seem to be in a holding pattern, awaiting critical US labor market data and Federal Reserve Chair Jerome Powell's upcoming remarks before making substantial adjustments to their outlook on monetary policy. Key data releases this week include the October JOLTS job openings report, the ADP employment survey, and November's non-farm payroll figures. Strong labor market indicators, particularly signs of resilience in job creation, could influence Waller's inclination to vote for a pause in rate cuts at the December Federal Open Market Committee (FOMC) meeting.

Economic analysts at RaboResearch anticipate a rate cut from the Fed in December, followed by another reduction in January, which would lower the upper bound of the Fed Funds rate to 4.25%. After these adjustments, the Fed is expected to hold rates steady as the incoming administration begins implementing Trump-era policies focused on deep tax cuts, strict immigration enforcement, and broad-based tariffs. This evolving economic landscape will likely remain a focal point for both policymakers and market participants in the months ahead.