Can the Fed Still Ignore Inflation?

The Pound had a mixed week making a small gain of 0.1% against the Euro but fell by 0.4% against the Dollar. April’s GDP and industrial production figures were slightly disappointing on Friday and the hangover from Brexit has weighed on the Pound. The so called “sausage war” is leading to growing tensions between the UK and EU, as both sides try to solve the problem which is the Ireland border and could escalate to a trade war. If the trade war were to happen, then this would cause significant weakness in the Pound. Covid numbers continue to rise in the UK and the full reopening of the economy on June 21st is likely to be pushed back.

This week kicks of with a speech from Bank of England Governor Andrew Bailey at the Association of Corporate Treasurers. Markets will be looking out for any comments regarding rate hikes which are currently priced in for the end of 2022. This week, the data calendar is extremely busy with UK employment data on Tuesday which is expected to improve. CPI for May on Wednesday which is also expected to improve from 1.5% to 1.8% year on year. The week finishes with retail sales on Friday, which should be positive but unlikely to meet the previous jump in May.

USD

The US Dollar was the top performing G10 currency last week as the greenback got a vote of confidence from the markets for the first time in a while. Headline US CPI jumped from 4.7% to 5% which is expected to be a peak for US prices, though inflation should remain elevated and above the target throughout the year. Normally this level of inflation would put massive pressure on the Fed to adjust monetary policy, but the latest US labour market data is providing a further excuse for its current cautious stance. The only other data of note from the US last week was the Michigan Consumer Sentiment Index for June which came better than expected.

The main focus for the Dollar this week is Wednesday’s Federal Reserve meeting. Nothing is expected to change in term of policy, but markets will look for comments which could further back up the current predictions that tapering could start in December this year, with the first-rate hike in early 2023. Joe Biden will be meeting with both the president of Russia and Turkey this week as part of his European tour. Though this may not have an immediate impact on the market, it will highlight the difference in foreign policy between Biden and Trump which will show longer term trends for the Dollar.

EUR

The Euro had a poor week, only increasing against the Norwegian Krone and New Zealand Dollar. The ECB meeting on Thursday was the main event last week and Christine Lagarde managed to avoid any mishaps in her communication. There was no change in the interest rates but a slight increase in PEPP purchases which adds to the story of a liquidity glut. As with the Pound, the Euro is currently facing some risk due to the current tensions between the UK and EU but to a lesser extent. Data wise, GDP for the eurozone beat expectations coming in at -1.3% for the first quarter of 2021.

The Euro is likely to be a reactive currency this week due to its light economic calendar and lack of risk events. Markets will be following comments from the G7 meeting, especially on a global tax deal but like Biden’s meetings, this will affect the long-term outlook on the Euro rather than initial reaction. Versus the Dollar, the currency pair are still trapped in the middle of two central banks who are happy to keep rates on the floor and keep printing money.