Neil Parker, our FX Markets Strategist, shares his views on the currency markets this week
UNITED KINGDOM: GBP ends the quarter on a downer as fears grow about shortages
The pound was under pressure last week, as fears grew over supply chain disruption, labour shortages and raw material price increases. The drop in the GBP was most pronounced against the USD, with the dollar benefiting after an associated fall in risk appetite. The drop in GBP/USD saw the currency rate reach its lowest level since pre- Christmas 2020, when the economy was rocked by renewed lockdown measures being introduced.
Data and survey releases were positive as far as the UK was concerned. Gross Domestic Product (GDP) growth figures were revised up for Q2, consumer borrowing figures were stronger than expected in August, house prices rose marginally, and the manufacturing PMI (Purchasing Managers’ Index) rose from its initial September reading (to 57.1), though was still well below the August reading (60.3).
None of that really matters though, as the FX markets seem to have adopted a more risk averse stance, and that seemingly remains the dominant force in terms of trading currently. There may also be an additional explanation to the recent GBP sell-off against other currencies, which is that the simplification of travel rules, due to be confirmed on Monday 4 October, has led to a flurry of bookings, and consequently an increased demand for foreign currency from the travel business. That’s just another possible roadblock for the GBP to rally further.
There is little data or survey evidence due for release this week. Moreover, although the party conference season is in full swing, none of the major political parties would appear to be able to announce anything that would give the pound a boost. Concerns regarding the supply chain problems are expected to persist, and that is likely to keep a lid on any GBP rallies, particularly with important US data due at the end of the week.
UNITED STATES: Higher rates despite signs of pressures; focus on payrolls
The US interest rate market has continued to see yields rise. A combination of factors is responsible for this. Firstly, the Federal Reserve looks increasingly likely to start the process of tapering asset purchases in November. Secondly, there remain concerns about the US government debt and deficit position, with the White House only avoiding a government shutdown at the eleventh hour. Finally, the pace at which inflation is falling back has been surprisingly sedate, with headline inflation close to multi-year highs and core inflation close to multi-decade highs.
Last week saw a mixed bag of data and surveys. There was some positive news from Q2 GDP, the housing market and personal spending in August, but consumer confidence (as measured by the Conference Board) fell sharply. There are also further signals that the US labour market is struggling to fill vacancies, which could lead to a further increase in wage inflation (beyond what’s already been visible).
The USD benefited last week from a drop in risk appetite. After the news of supply chain disruption and other problems around raw material prices, that probably wasn’t so much of a surprise, but it is worthwhile mentioning that normally, when oil prices rise for example, that tends to be a longer-term USD negative. So, it is likely to depend on whether this short-term disruption has a more positive effect on interest rates, or a negative effect on growth (or possibly even both), that will determine the longer-term direction in the USD.
For this week, with the fiscal spending problems fading from the agenda, there is only one likely area of focus for the markets. US non-farm payrolls for September are released on Friday. The August payroll outturn was a massive disappointment, with a net increase of 235,000 jobs against consensus expectations of a 730,000 increase. This time around the market expects a figure of close to 400,000 net new jobs, which might be an easy target to hit, but more worrying for markets if there’s another miss to the downside.
The US dollar’s gains on the back of the risk appetite decline should not be too troublesome to US authorities, and the dollar could make further advances this week, as other economies continue to flounder. Certainly, the performance of the US economy justifies a reversal of monetary policy, much more so than concerns about inflation, and the likes of the UK and Euroland justify tightening there.
EUROPE: Inflation higher but it’s all temporary, right?
The Euroland economy isn’t performing particularly well at the moment. In recent weeks we’ve seen a downgrade to German growth forecasts, and last week the latest batch of manufacturing PMI indices recorded a further slowdown in activity rates. Of more concern though was the rise in inflation rates. Across many different economies, most of which aren’t close to recouping lost levels of economic output, the pick-up in inflation has seen rates climb to multi-year highs.
Meanwhile, issues around supply chains, electricity and gas prices and labour shortages are prevalent, if not as severe as in other economies. Even so, this would question just how temporary the rise in inflation is. If it turns out to be more semi-permanent than temporary, that could change opinions at the European Central Bank about when to start the process of unwinding current monetary loosening measures and then eventually begin monetary tightening.
The EUR appears to be under pressure against other currencies, but weakness against the GBP is less explainable than against the USD. Yes, there has been speculation that the Bank of England would accelerate its tightening programme, but that makes little sense if this action is to control inflation issues created at an international level. Overall, the EUR might continue to lose ground against the USD over the course of this week, but I’d expect it to fare better against the GBP.
This week’s data and surveys aren’t going to be much assistance, though German factory orders and industrial production figures for August, and the final September services PMI index might, at best, offer some temporary support.
CENTRAL BANKS: Czech out the bigger hike; New Zealand to get on the board this week?
Last week’s central bank calendar had hikes expected from the Czech Republic, Mexico and Colombia. The week though kicked off with the central bank of Thailand leaving monetary policy unchanged, hardly a surprise given recent problems with coronavirus cases and new lockdowns. All those central banks that were expected to hike did so, but the Czech central bank hiked by 75 basis points, to 1.5%, the highest level the repurchase rate has been since the pandemic began. The Czech central bank and government squared off after the government criticised the moved, with Governor Rusnok stating that its legal mandate was to safeguard price stability, even though members of the government highlighted that the inflation was coming from non-domestic sources. That hike in interest rates could hurt the government’s chances of re-election, with the vote due this weekend.
This week, there are a number of central bank meetings due. Overnight on Monday, the Reserve Bank of Australia aren’t expected to alter monetary policy. Covid infection numbers are rising, and Australia’s strategy has moved from zero Covid to vaccinating a large part of the population, in order to re-open. The Reserve Bank of New Zealand’s decision on Wednesday, on the other hand is expected to hike interest rates 25 basis points. Mind you, it was expected to do this at its previous meeting, but had to pull back after new lockdown measures were introduced. The central banks of Poland and Israel are expected to leave interest rates on hold, although the rise in inflation in Poland, and hikes elsewhere in Eastern Europe, suggests the risks of a Polish tightening are growing. Lastly, Peru and India’s central banks meet on Friday. In Peru, a further 50 basis point hike is expected because of elevated inflation pressures, but the Indian central bank is set to leave interest rates on hold. However, the Reserve Bank of India might signal a tapering of its asset purchase programme.
View last week’s Quick take.
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