Post date: 08/11/2021 10:46
G10 currencies continue to move in sync with the relative hawkishness of their respective central banks – though “hawkish” is measured relative to an extremely dovish consensus, in which monetary policies in developed countries remain extraordinarily loose in general. Sterling tanked on the surprise decision by the Bank of England not to hike, while the dollar was steady after the Federal Reserve announced a taper to its bond purchases that was largely in line with market expectations. The greenback ended the week on a positive note after Friday’s strong payrolls report. Meanwhile, the euro continues to struggle as President Lagarde emphasises her lack of concern over inflation and pushes back against rate hike expectations. The key data releases for the foreseeable future will be those related to inflation. This week we get US producer price inflation (Tuesday) and CPI (Wednesday). Both are forecast to increase further from already very elevated levels. Speeches by Federal Reserve officials will also be hitting the tapes over the week, and we still expect increasing dissension over the appropriateness of ultra-loose monetary policy as inflation remains way over target for longer.
The Bank of England seems to have bungled its market communications pretty severely. After weeks of hawkish hints, the MPC defied market expectations and left rates unchanged at its November meeting, with just two of the nine committee members voting in favour of an immediate hike. The bank also failed to commit to any particular date in the future, although it did leave the door open to hikes at upcoming meetings. Sterling did not take it well and was one of the worst-performing currencies worldwide. Data releases this week become the focus again. While the US inflation number may be the most critical data point for the USD/GBP cross, the UK monthly GDP data for September will tell us the speed at which the service sector is normalising after the delta-variant disruptions.
President Lagarde’s relentless dovishness and unconcern over rising inflation remains a serious headwind for the common currency, and accordingly we have revised our euro forecasts lower. We think inflationary pressures lasting longer than expected is clearly a global phenomenon. They have shown up first in the US and are lately hitting the Eurozone with a lag, as is often the case with macroeconomic trends. However, this lag may enable the ECB to continue to rely on its optimistic forecasts for transitory inflation for a while longer yet, and it is difficult to see the euro rally too much in that environment.
The Fed’s November decision to taper purchases of Treasuries and mortgage bonds came in roughly in line with our and the market’s expectations. We were expecting somewhat of a hawkish tilt to the communications, but chair Powell clearly remains confident in his call that inflation is temporary, in spite of the Fed’s failure to foresee the coming, extent, and duration of the inflation spike in the first place. The dollar wobbled somewhat after this “dovish taper”, but it recovered its stride after the strong job market report published the next day. All eyes will now be on the inflation report on Wednesday. The forecast is for another strong increase in both the headline and core indices. We do not expect any immediate policy reactions, but the Fed can only continue to look past these numbers for so long.