Important calendar events
The dollar slid on Monday amid recession fears, with the dollar index falling below 104. US Bond yields firmed though, with the US 10-year treasury note yielding approximately 3.2%
Deteriorating economic health in the US is raising recession concerns and limits the US Federal Reserve’s ability to tighten its fiscal policy. The dollar has been supported by hawkish Fed policy but the precarious state of the US economy is pushing the currency down.
US Durable Goods and Homes Sales data released on Monday exceeded expectations, providing support for the dollar.
In its latest policy meeting, the US Federal Reserve voted to raise its benchmark interest rate by 75 points, taking aggressive action against inflation and bringing its interest rate to 1.75%. Record high US inflation rates have forced the Fed to ramp up its efforts by performing its steeper rate hike since 1994.
US inflation keeps rising, forcing the Fed to tighten its monetary policy. PPI climbed 0.8% for the month and 10.8% on an annual basis, falling close to the historically high levels reached in March. CPI in May increased by 8.6% on an annual basis, the largest year-on-year increase since 1981 according to the US Labour Department. Rising costs of food and energy have contributed to soaring inflation rates in the US.
Several economic indicators are scheduled to be released for the US on Tuesday, the most important of which is the Consumer Confidence index. These indicators may provide insight into the state of the US economy and are likely to affect the dollar.
The Euro edged higher on Monday, in anticipation of the European Central Bank's annual summit in Portugal. The Euro gained strength against the weakening dollar, with the EUR/USD range climbing above the 1.060 level. If the currency pair goes up, it may encounter resistance at 1.078. The EUR/USD is currently testing the support at the 1.036 level that represents 2016 low and, if it falls further, it may find support near a 20-year low of 0.985.
Indications that the Eurozone economy is slowing down are raising fears of a recession in the EU. The sluggish Eurozone economy increases the odds that the ECB may be forced to moderate its plans for raising interest rates, driving the Euro down. Even though the ECB has pointed clearly to a shift towards a more hawkish policy, stagnating Eurozone economies limit the ECB’s flexibility to increase interest rates to combat high inflation.
In its latest monetary policy meeting, the ECB kept its interest rate unchanged but pointed to a small rate hike at its next meeting in July. The Fed’s decisive 75 base point rate hike emphasized, even more, the gap between ECB and Fed policies, putting pressure on the Euro. The ECB has kept its interest rates below zero for over a decade and an increase in interest rates represents a hawkish turn in its monetary policy, to counter unprecedented inflation rates.
EU inflation remains at record high levels of 8.1%, driven by rising food and energy costs. EU members have recently announced a gradual ban on Russian oil imports, while Russia has retaliated by limiting its natural gas exports to certain EU countries, raising fears of a potential energy crisis in the EU.
German GfK Consumer Climate data are scheduled to be released on Tuesday. In addition, ECB President Christine Lagarde is due to deliver a speech on Tuesday at the ECB Forum on Central Banking, in Portugal and her speech may cause some volatility for the Euro. This week, the ECB summit is expected to draw the attention of market participants, and announcements from ECB officials throughout the event may affect the Euro price.
The Sterling rose a little on Monday, benefitting from the dollar’s weakness, with the GBP/USD rate moving around the 1.228 level. If the GBP/USD rate goes up, it may encounter resistance near the 1.308 level, while if it declines, support may be found near 1.200 and further down near 1.140.
The Sterling gained strength on Monday as the dollar weakened. Deteriorating economic health in the UK though is raising fears of recession, putting pressure on the Sterling. Political woes are also holding the Sterling back, as the Tories suffered defeat in two UK by-elections, with the ruling party losing two seats in the parliament.
Britain’s uncertain economic outlook limits the BOE’s ability to shift towards a more aggressively hawkish policy. In its latest policy meeting, the BOE raised its benchmark interest rate by 25 base points, bringing its interest rate to 1.25%.
By performing a modest rate hike the BOE is trying to strike a balance between battling inflation and supporting the sluggish economy. With the Fed raising its interest rate by 75 base points, the divergence in monetary policy between the Fed and the BOE becomes highlighted, putting pressure on the Sterling.
UK inflation has risen to 40-year highs touching 9.1% on an annual basis. The cost of living in the UK has been increasing, driven primarily by the high cost of energy imports, putting pressure on UK households. Soaring inflation rates add more pressure on the BOE to continue increasing its interest rates. Stagflation is a risk for the UK economy, however, as for many other countries, economic stagnation coupled with rising inflation creates a toxic mix for the economy.
The Yen traded sideways against the dollar on Monday with the USD/JPY pair testing the 135.3 level resistance representing 2002 high. If the USD/JPY declines, support might be found near the 130.5 level and further down at the 127 level. If the pair climbs it may find resistance further near the 1998 high of 147.7.
The dollar retreated on Monday, as US recession fears are on the rise. Competing assets, such as the Yen, benefit from the dollar’s weakness. Oil prices rallied on Tuesday though, holding the Yen back. Japan is a net importer of oil and high oil prices have been putting pressure on the country’s economy.
The BOJ has kept its benchmark interest rate at -0.10%, despite the rising inflation rates in Japan. The BOJ’s decision to keep its interest rate unchanged emphasizes the divergence between the BOJ’s fiscal policy and that of other major Central Banks, especially following the Fed’s 75 base point rate hike. While other countries are moving towards quantitative tightening, Japan continues to pour money into the economy and maintains its negative interest rate. The difference in interest rates with other major Central Banks puts the Yen at a disadvantage, driving its price down.
The BOJ continues to buy an unlimited amount of Japanese treasury bonds, defending their current low yield. In contrast, the respective US 10-year bond is offered with a yield of over 3%, more than an order of magnitude higher than the Japanese bond. The large divergence in bond yields makes the low-yielding Yen less appealing to investors than the dollar, pushing its price further down.
Inflation in Japan remains above the BOJ’s 2% target, reaching 2.1% on an annual basis for the second month. The combination of a weak currency and rising inflation is burdening Japanese households.
BOJ Core CPI data are scheduled to be released on Tuesday. These are key inflation indicators and may influence the BOJ’s future monetary policy.
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