Neil Parker, our FX Markets Strategist, shares his views on the currency markets this week
UNITED KINGDOM: Sterling holds after hawkish Bank of England, Bailey’s comments in focus
Sterling gained against the dollar after the Bank of England (BoE) left monetary policy settings unaltered last Thursday (Bank Rate at 0.10%, total asset purchase target at £895bn). Monetary Policy Committee (MPC) members Saunders and Ramsden voted for a discontinuation of asset purchases as soon as possible. In the meantime, the minutes stated that rate hikes could come before tapering (i.e. cutting asset purchases), signalling a possibly earlier rate hike and lending support to Sterling. This makes BoE Governor Bailey’s speaking engagements on Monday an important event to watch for any further clues about an earlier rate hike. It seems like the BoE is trying to balance the outlooks of slowing growth momentum and surging inflation. Given that the BoE is an inflation-targeting central bank, high inflation will likely continue to pressure them to earlier monetary policy tightening, which could be positive for Sterling, in my view.
EUROPE: EUR/USD hovers around 1.17, inflation in focus
EUR/USD hovered around 1.1700 on Monday morning after ending last week barely changed. The region’s September Purchasing Managers’ Index (PMI) data released last week turned out to be lower than economists’ expectations (Bloomberg survey), with manufacturing and services PMI falling to 58.7 (vs consensus 60.3) and 56.3 (vs consensus 58.5) respectively. It appears that the peak of the region’s growth momentum is behind us, but activity is still at elevated levels and consistent with strong Gross Domestic Product growth (though less buoyant than in recent months). The third consecutive fall in the German Information and Forschung survey (Germany’s institute for economic research) in September also suggested a slowdown from the earlier summer peak in activity, mainly driven by problems in the manufacturing sector due to supply constraints. The European Central Bank (ECB) might want to see developments over the next few months before making any bolder moves. But the still elevated PMI data underpin the recent less accommodative comments from the central bank and their decision to slow down the pace of asset purchases for the next quarter announced at its last policy meeting.
This week will see September inflation data in the region, which might be moving above 3%, according to economists’ expectations in a Bloomberg survey. Energy remains the main driver of inflation, boosted by a combination of base effects and renewed tensions in gas and electricity prices in recent months. The ECB recently reiterated their view that inflation is largely temporary, and whether they will revise their inflation projections higher again in December (given the rising inflation) will need to be watched.
UNITED STATES: Dollar on front foot amid Fed’s hawkish comments
The USD gained after the Federal Open Market Committee (FOMC) meeting last Wednesday with officials signalling that they are almost ready to taper. The policy statement made clear that “If progress continues broadly as expected, the Committee judges that a moderation in the pace of asset purchases may soon be warranted”. In terms of the timeline of taper (i.e. cutting asset purchases), even though Powell didn’t give any specifics about the start of the taper, he said there was broad agreement in the end of taper, one which “concludes around the middle of next year”. This could be more important than when the taper begins in my view, as it starts the clock on when the next hike may occur (depending on the evolution of the economy), which might have lent support to the USD. We heard from the first FOMC officials last Friday following their policy meeting on Wednesday, with both Esther George and Loretta Mester saying that they support tapering to start soon. Their statement didn’t come as a surprise for market investors, as the two have been relatively hawkish (i.e. supported an earlier monetary policy tightening). But their comments continued to build on the narrative of a November announcement of taper, barring a disappointing job report in October, in my view.
This week’s economic calendar is relatively light, with the durable goods on Monday and consumer confidence data on Thursday. However, the calendar is packed with FOMC officials’ speeches, and an updated insight about individuals’ preferences around the start of a slowing down in the pace of asset purchases (taper) and their monetary policy outlook might be important for currency markets, in my view.
CENTRAL BANKS: Mexico, Colombia, Thailand and Brazil decisions
The next phase of global policy tightening appeared to have started to shift gears, though as many G10 central banks are moving in similar directions, they are at different stages in the policy cycle. The Federal Reserve officials signalled that they are almost ready to taper this week, while the BoE suggested on Thursday that rate hikes could come before tapering. Norges Bank led the tightening cycle among G10 with a 0.25% rate hike last Thursday. However, the Riksbank and Bank of Japan looked set to continue to lag behind, keeping policy settings unchanged this week. In emerging markets, the Central Bank of Brazil continued on its hiking cycle by raising rates by 1%, consistent with economists’ expectations in a Bloomberg survey. However, the Central Bank of Turkey was the outlier, cutting rates on Thursday, which was unexpected by market participants. The collapse of credibility in the country’s monetary policy framework, the prospect of further de-anchored inflation and dollarization due to Lira depreciation might weigh on market investors’ sentiment on the Turkish New Lira.
This week will see several central bank meetings in emerging markets. The Bank of Thailand will likely stay on hold on Wednesday, given the persistent challenges to the economy due to lingering Covid cases. On the other hand, the central banks of Czech Republic, Mexico and Colombia will all likely hike rates this Thursday, amid rising inflationary pressures.
View last week’s Quick take.
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