Sterling had mixed fortunes early in the week, making gains against the US dollar and losses against the single currency. Whilst much of the focus in the UK was on the heatwave, and the Conservative leadership battle, significant data readings and speakers from the Bank of England kept the market on its toes. Central bank speakers continued their hawkish tone but failed to commit with conviction.
Bank of England member Saunders warned that price pressures could be harder to stop due to a declining potential growth rate. He also stated that he thought the tightening cycle still had some way to go. Last night, Bank of England Governor Bailey noted that a 50 basis-point rate hike is on the table at the August meeting. However, he insisted that a 50 basis-point rate hike was not locked in.
In terms of data, we saw a mixed picture. The employment data was slightly disappointing, with the claimant count not falling as fast as anticipated. The average earning did not advance as hoped. This morning we saw inflation post a new four-decade high of 9.4% for June from 9.1%. This was slightly above the anticipated figure of 9.3%. The core rate tipped lower to 5.8% from 5.9%. Inflation will likely push higher, with a forecast for the coming months at 11%. If we see this materialise, it will continue to pressure the Bank of England.
On Friday, economic activity will fall under the microscope with the release of the UK retail sales and the PMI data from the manufacturing and service sectors data. With the market trying to balance inflation and growth, it will be interesting to see how these readings look.
Dollar weakens as mark pars rate expectations
The US currency maintained a weaker tone with different expectations that the US economy would lose traction amid a tight financial environment. Data did little to refute this theory. The NAHB housing index dipped sharply to 55 for July from 67, which was well below consensus forecasts of 66 and the lowest reading since May 2020.
In the meantime, US housing starts declined to an annual rate of 1.56mn for June from a revised 1.59mn previously and slightly below consensus forecasts. Building permits remained unchanged at 1.69mn. This figure was above market expectations of 1.65mn, with an element of relief that a sharper decline was avoided.
Federal Reserve officials commented on the importance of the housing sector for calibrating their interest rate decisions and the degree of monetary tightening required. The weaker than expected NAHB data was another important factor dampening expectations of a more aggressive Fed rate hike in this month’s policy.
Looking to the remainder of the week, the market will continue to focus on data as there are no Fed speakers as the central bank enters its blackout period ahead of next week’s policy. Economic data will focus on the existing home sales numbers due today, the Philadelphia Fed manufacturing on Thursday, and finally, PMI services and manufacturing data on Friday.
Will the ECB act more aggressively than predicted?
When parity was breached last week, we saw a significant circa 3% move higher from the lows on EURUSD. Following the European open on Tuesday, it posted sharp gains. The currency gained support from source reports that the ECB considered a rate hike of 25 or 50 basis points at this week’s policy meeting. Markets are priced in around 30 basis points of tightening. Fresh euro buying was triggered by the heightened possibility of a bigger rate hike with money markets moving to price in 100 basis points.
The key highlight for the remainder of the week will be tomorrow’s ECB meeting, which will likely announce its first interest rate increase since 2011. Currently, the ECB signalled its intention to raise rates by 25bp, taking the deposit rate from -0.5% to -0.25%. Given the speculation in the market, could we see a more extensive hike? The ECB meeting and announcement are due on Thursday at 1.15 pm and the press conference at 1.45 pm. The market will decipher the rhetoric and tone of the language for clues on future policy action, especially given the current conditions and the currency’s weakness. Following the rate decision on Friday, there are some critical economic data from the PMI Services and Manufacturing.
Markets will also follow political developments in Italy during the day. The euro will dip lower if the country’s prime minister announces his resignation.
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