Important calendar events
The dollar dipped on Wednesday after the release of US CPI data, with the dollar index dropping to 101.3. US Treasury yields declined on increasing expectations of a pause in US rate hikes and the US 10-year bond yield dropped to 3.44%.
On Wednesday, US Consumer Price Index data showed that headline inflation dropped to 4.9% year-on-year in April, decelerating from a 5.0% print in March. US Inflation cooled more than expected in April, as markets were anticipating a 5.0% print. Monthly CPI is forecast to rise 0.4% in April in line with expectations. Core CPI, however, which excludes food and energy, proved to be persistent, remaining at 5.5% year-on-year. The dollar dropped after the release of the CPI data, as slowing inflation increased the chances that the Federal Reserve could pause its interest rate hikes.
The Federal Reserve raised interest rates by 25 basis points at its monetary policy meeting last week, bringing the benchmark interest rate to a 16-year high target range of 5.00% to 5.25%. The FOMC statement released after the meeting was dovish, putting pressure on the dollar.
Markets interpreted the Fed’s statement as a clear sign of a pause in rate hikes after May’s interest raise. The US Central Bank has signaled that its hawkish policy is coming to an end, as prolonged tightening is putting the economy at risk and the recent turmoil in the banking sector has increased recession concerns. Many analysts predict that there is a high probability of rate cuts starting in November, depending on economic conditions and inflationary pressures.
Advance GDP data for the first quarter of the year showed that the US economy expanded by 1.1% against expectations of 2% and a 2.6% growth in Q4 of 2022. Advance GDP Price Index on the other hand rose by 4.0% in Q1 of 2023, versus 3.7% expected. This index is a measure of inflation and indicates that price pressures remain high.
US inflation rose slightly in March. The core PCE Price Index, which is the Fed’s preferred inflation gauge, rose by 0.3% in March, in line with expectations. On an annual basis, core PCE increased by 4.6%, beating expectations for a 4.5% growth.
US PPI data on Thursday will provide a more complete picture of the direction of US inflation and is expected to cause volatility in dollar prices. US Unemployment Claims are also due on Thursday and may affect the dollar.
EUR/USD was volatile on Wednesday, directed mostly by the dollar’s movement. The EUR/USD pair shot up to the 1.100 level after the release of the US CPI data but pared some of its gains later in the day. If the currency pair goes up, it may encounter resistance near 1.109. If the EUR/USD pair declines, it may find support at 1.094.
Economic activity indicators released on Wednesday for the Eurozone were mostly in line with expectations. German CPI increased by 0.4% in April as forecast. German headline inflation slowed to 7.2% year-on-year from 7.4% the previous month. Italian Industrial Production data were disappointing, dropping by 0.6% in March, against expectations of a 0.3% growth.
The ECB raised interest rates by 25 bp at its monetary policy meeting last week, bringing its main refinancing rate to 3.75%. The ECB had raised interest rates by 50 bp in previous meetings and is slowing down the pace of rate hikes. The Federal Reserve also raised interest rates by 25 basis points last week. The Fed’s benchmark interest rate, however, is much higher, in a target range of 5.00% to 5.25%. The divergence between the Fed’s and the ECB’s interest rates is putting the Euro at a disadvantage.
The ECB left the door open for further rate hikes as inflationary pressures in the EU remain high. The ECB, however, is expected to reassess its policy direction ahead of its next meeting in June. EU policymakers must take a lot of variables into account, including the effect of economic tightening on the now fragile banking sector.
Price pressures in the Eurozone remain high. Headline inflation rose to 7.0% year-on-year in April from 6.9% in March, in line with expectations. Core CPI, which excludes food and energy, dropped slightly to 5.6% on an annual basis in April from 5.7% in March. Eurozone inflation is not showing signs of cooling despite the ECB’s aggressive tightening.
Preliminary GDP Flash data for the first quarter of the year rose to 0.1%, registering a small improvement against the 0 print for the final quarter of 2022. The print was lower than consensus estimates of a 0.2% growth, indicating very slow economic expansion in the EU.
The Sterling remained strong on Wednesday, with GBP/USD touching a yearly high as the dollar weakened. The currency rate was briefly catapulted to the 1.268 level after the release of the US CPI data but soon deflated, dropping back to 1.261. If the GBP/USD rate goes up, it may encounter resistance near 1.266, while support may be found near 1.243.
All eyes are going to be on the Bank of England on Thursday and the Monetary Policy decision. The BOE raised interest rates by 25 basis points at its last meeting in March, bringing the bank rate to 4.25%.
The BOE is expected to hike rates by another 25 basis points at its policy meeting on Thursday to 4.50%. Market odds are in favor of more BOE rate hikes up ahead and many analysts predict no rate cuts at all within the year.
The BOE has been following an aggressively hawkish monetary policy, aiming to bring inflation down. Inflation in the UK is still rampant, however, after more than a year of raising interest rates. British headline inflation remained above the 10% level in March, dropping to 10.1% year-on-year from 10.5% in February. Even though inflation showed signs of cooling, it exceeded expectations of a 9.8% print. Inflation in the UK has become entrenched, forcing the BOE to continue its policy of economic tightening against a weak economic backdrop.
The UK economy registered stagnation in March according to recent GDP data. Monthly GDP dropped to zero, falling below expectations of 0.1% expansion. In addition, the IMF has downgraded the UK’s growth forecast, predicting that the British economy will contract by 0.6% this year, which is also consistent with BOE forecasts. April’s GDP print will be released on Friday, a day after the BOE policy meeting.
The UK’s grim economic outlook limits policymakers’ ability to increase interest rates sufficiently to rein in inflation. The British economy is struggling, and policymakers will have to assess how much tightening it can withstand to bring inflation down.
The Yen gained strength against the dollar on Wednesday and USD/JPY plummeted to the 134.2 level. If the USD/JPY pair declines, it may find support near 133.5. If the pair climbs, it may find resistance at 137.7.
The BOJ decided to continue its dovish monetary policy at the bank’s latest meeting in April. This was the first meeting with the newly-appointed BOJ Governor Kazuo Ueda at the helm. Japanese policymakers maintained ultra-low interest rates at the BOJ policy meeting, keeping the central bank’s refinancing rate at -0.10%.
The BOJ modified its forward guidance slightly at its latest meeting by removing a pledge to keep interest rates at current or lower levels. In addition, the BOJ announced a review of the impact of its easing policies with a planned time frame of around one to one-and-a-half years. This signals a policy change down the road, although it is clear that the BOJ does not have any immediate plans to pivot to a more hawkish policy.
The Yen gained strength this week, boosted by hawkish BOJ rhetoric. BOJ Governor Kazuo Ueda stated on Tuesday that the central bank will end its yield curve control policy and then start shrinking its balance sheet provided that inflation can sustainably maintain the bank’s 2% target. Ueda stressed that Japan's economic outlook is improving, and inflation expectations remain high.
BOJ Core CPI rose to 2.9% in March on an annual basis from 2.7% in February. March’s print exceeded expectations of a 2.6% growth, indicating that price pressures in Japan continue to rise.
National Core CPI remained unchanged at 3.1% year-on-year in March. Tokyo Core CPI for April was hotter than expected, at 3.5% on an annual basis, against expectations of a 3.2% print. Inflation in Japan remains steadily above the BOJ’s 2% target, putting pressure on businesses and households. Increased price pressures and wages, raise concerns of a wage-price spiral and may force the BOJ to pivot towards a more hawkish policy.
Final GDP data for Q4 of 2022 have shown that the Japanese economy has reached stagnation. Japan’s economic outlook is poor, raising recession concerns for the world’s third-biggest economy. The final GDP Price Index printed slightly higher than expected, with a 1.2% annual expansion, versus the 1.1% predicted.
Several economic activity indicators are due on Thursday and may affect Yen's price. More importantly, the BOJ Summary of Opinions is scheduled to be released on Thursday. This is the primary tool the BOJ uses to communicate its economic and monetary projections to investors, and it is of primary importance this week after the recent speculation on a BOJ policy shift.
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