All Eyes On Jackson Hole, As Market Awaits Signal On Fed Policy
The euro remained on the front foot yesterday, as speculation continued to surround the trajectory for ECB monetary policy. This saw GBP/EUR drift back down to the €1.165 mark, while EUR/USD continued to hold around the midpoint of the $1.17-1.18 band. Recent comments from ECB officials have suggested that they have more confidence in the economic outlook, comments which markets have interpreted as a sign that bond purchases will be scaled back in the coming quarters. The publication of the July policy meeting minutes yesterday afternoon did little to change this narrative, as they confirmed that officials now see risks to the medium-term outlook for inflation as being tilted to the upside. This represents a notable change in language from the ultra-dovish central bank and has seen money markets price back in a 10bps rise in the ECB’s deposit rate from –0.50% to –0.40% over the past week.
We remain sceptical that this move will be sustained given the muted outlook for the eurozone economy, with French business sentiment data for August printing well below expectations yesterday just as German figures did earlier in the week. This signals to us that after a cyclical upturn post-lockdown, growth is now returning to its sluggish trend. This will be further amplified by a roll back in fiscal stimulus measures over what is left of H221 as the pandemic recedes, a factor that we expect will see the gradual downtrend in the unemployment rate come to an end (7.7% in June vs peak of 8.4% in October 2020).
The dollar also remained well-supported in the lead-up to Fed Chair Powell’s key-note speech at Jackson Hole this evening, with GBP/USD dipping back down to $1.37. The greenback benefitted from comments from a trio of typically hawkish sounding Fed officials, who were all of the view that the recent notable deterioration in the US’ epidemiological situation has not fed across into a notable loss of growth momentum. As a result, they continue to back announcing that the tapering process will commence in Q4 at the upcoming September FOMC meeting.
We doubt that Powell will echo these comments this afternoon, given the current fragile state of investor sentiment as question marks surround the trajectory of the pandemic and the growth outlook. The central bank chief has continually sought to emphasise that policy supports will not be withdrawn prematurely and any shift in stance would be signalled well in advance to avoid a repeat of the 2013 taper tantrum. As a result, we anticipate that Powell will attempt to becalm investors, highlighting the progress that must yet be met on the labour market front before policy normalisation gets underway. In terms of dollar impact, if events proceed as outlined we believe the dollar will hand back some of its recent gains. That said, if we are wrong and a strong signal is sent that tapering is coming in September, expect the greenback to retest recent highs.
It’s also worth noting that today we will also get the August print of the Fed’s preferred measure of price pressures, core-PCE.
Inflation is projected to have picked up to 3.6% y-o-y from 3.5%, though CPI data (another inflation measure) suggest risks to this forecast are to the downside. In any case, we do not anticipate much of a reaction in markets given the focus on Powell’s speech.
A quiet day lies ahead again for sterling, with shifts set to be driven by the other half of its main pairs. The outlook for sterling is darkening somewhat, as Covid-19 cases have continued to gradually grind higher, dampening investor sentiment.
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