The ECB left its options open last week. This one will test our view that central banks in the US and the UK need more time before embarking on a rate-cut journey. In spite of the ECB meeting and a flurry of economic activity data, the volatility in the FX market was relatively muted last week, with G10 currencies registering a maximum 0.6% change against the US dollar.

This week is set to be even busier in terms of economic releases and policy announcements. We would not be surprised to see some pick-up in volatility. On Tuesday, the attention will be on the Eurozone’s fourth-quarter GDP data, which may seal the deal on technical recession. On Wednesday morning, market sentiment might be impacted by China’s January PMI data. On Wednesday evening, all eyes will be on the Fed, and Thursday will belong to the Bank of England. On the same day, inflation data for the Eurozone will be out. Non-farm payroll report from the US will close this unusually busy week.

GBP

Sterling ended the week unchanged against the greenback and reached its strongest position since August against the broadly weaker euro. PMI data released last week provided for a good start to 2024, with all key indices increasing and composite PMI reaching its highest level in eight months. This alleviates some concerns over the prospects of the British economy, which were recently reinforced by particularly bleak retail sales data for December. It also supports our belief that some forecasters may need to rethink their outlooks. This includes the Bank of England, which pencilled in ‘broadly flat’ growth for this year. It is also worth noting that, similarly to PMIs, GfK consumer sentiment data increased more than expected, with the index now at -19. Brits are still gloomy about their prospects, but the least gloomy they have been in two years. We suspect that progress on inflation, which helps to keep real wage growth back in positive territory and brings about prospects for lower interest rates, is indeed lifting moods. January’s cut in national insurance costs must have also been welcomed by households.

This week the focus will be squarely on the Bank of England. We think another 6-3 vote is likely and will be particularly attentive to how the bank handles communications around the possibility of further hikes and prospects for rate reductions. All in all, we think the Bank has valid reasons to lag behind its major peers in cutting rates this year and see the June MPC meeting as the earliest date for the beginning of its rate cut cycle.

EUR

January PMI data was marked by dichotomies: a surprisingly sharp increase in manufacturing PMI was accompanied by a mild, yet unexpected drop in services index. Moreover, a poor showing in the Eurozone’s biggest economies – Germany and France – contrasted with positive news from smaller ones. For the time being, the stagnation narrative continues.

Turning to monetary policy, a lack of explicit pushback against market pricing for cuts from President Lagarde at last week’s ECB meeting encouraged markets to ramp up their April rate cut bets. Unsurprisingly, the euro was dragged lower. Investors now see approximately 85% chance of such a move versus 65% prior to the meeting. We also see it as realistic but would be particularly attentive to signals on the inflation and labour market fronts in the period ahead. This week, the attention will be on the Q4 GDP data and the January inflation release. As for the former, the consensus is pencilling in a minimal contraction, sealing a technical recession. HICP data is set to be more pleasing to the eye, with progress on inflation expected to continue: both the headline and core measures should show declines.

USD

The US dollar index ended the week marginally higher, helped by strong economic data from the US and a weaker euro. Latest data surprised positively on nearly all fronts. Particularly worth noting was the upside surprise in the third quarter GDP growth, which showed the economy expanding by 3.3% annualised, far stronger than the 2.0% pencilled in by the consensus. A strong showing, including robust household spending, works to ease some concerns over the health of the US economy. A noticeable increase in both services and manufacturing PMI (with the latter unexpectedly jumping above the 50 mark, separating contraction from expansion) also suggests the slowdown in the US economy could be milder than thought.

This good news, however, makes the job more difficult for the Federal Reserve. This week, the bank is expected to keep rates unchanged, with the market’s attention focused primarily on signals regarding the prospects for cuts and, in particular, how realistic a move in March is. Given the strength of the US economy and the resilience of the labour market, where only modest easing is seen, we think the Fed should push back against market bets for imminent policy easing. A mild downward surprise in core PCE inflation from last week (2.9% vs. 3% expected) does not change this view. Given that markets are still pricing in a 50/50 chance of a first cut in March, we would expect the dollar’s rally to continue if the decisionmakers pour cold water over prospects for such a move. Other than the Fed, the attention this week will focus on the January payrolls report, which is set to show a slight easing in the number of jobs created.