Important calendar events
The dollar remained strong on Thursday, with the dollar index climbing above 110. US Treasury yields were also stable, with the US 10-year bond yielding just below 3.3%.
Fed rhetoric propelled the dollar to 20-year highs in the past couple of weeks amidst mounting expectations of a steep Fed rate hike in September. Fed rhetoric remained hawkish this week, although markets perceived FOMC members’ speeches as more cautious and the dollar plummeted after the speeches of FOMC Members Mester and Brainard on Wednesday.
Fed Chair Jerome Powell delivered a speech on Thursday for the Cato Institute, reiterating the Fed’s commitment to bring inflation down. Powell stated that the US Central Bank would continue raising interested rates until the job is done. Powell’s hawkish speech increased rate hike bets, boosting the dollar. Markets are currently wavering between a 50-bp and a 75-bp Fed rate hike in September.
US Unemployment Claims data released on Thursday were more optimistic than expected, showing that the important jobs sector is moving in a positive direction.
US inflation remains at a multi-decade high of 9.1%, but its ascend seems to have been arrested for the time being, mainly due to a slowdown in energy costs. Cooling inflation shows that the Federal Reserve’s aggressive monetary tightening yields results and removes some pressure on the Fed to increase interest rates.
The Fed is tasked with battling soaring inflation without the benefit of a strong economic background. A robust economic outlook is required to enable the Fed to tighten its monetary policy further.
FOMC members George and Waller are due to deliver speeches on Friday, which may affect the dollar, as Fed rhetoric is one of the primary drivers of the dollar.
The Euro struggled to maintain the parity level against the dollar on Thursday, even after the ECB performed an unprecedented rate hike. The EUR/USD fell below parity following the ECB policy meeting but pared some of its losses later in the day. If the EUR/USD declines further, it may find support at the 0.845 level, representing the 2002 low. If the currency pair goes up, it may encounter resistance at 1.019 and further up at 1.036.
In an unprecedented move on Thursday, the ECB raised its benchmark interest rate by 75 basis points, making a decisive move towards a hawkish fiscal policy. Even though this was the ECB’s largest rate hike in history, it had already been priced in by markets and the Euro fell after the conclusion of the ECB monetary policy meeting.
The ECB’s ensuing statement was perceived as cautious, sending mixed messages to investors on the future ECB fiscal direction. ECB President Christine Lagarde delivered a speech following the ECB meeting that was again perceived as contradictory, stating that the ECB would raise interest rates further if needed, but that this massive rise in interest rates was part of a "front-loading exercise" and "not the norm.
In addition, Europe is facing an energy crisis, which seems to be escalating, driven by the EU’s dependency on Russian energy. G7 finance ministers have agreed to impose a cup on Russian oil prices in an attempt to reduce Russia's ability to fund its war against Ukraine. Gazprom has shut down the Nord Stream 1 gas pipeline in retaliation, leaving the EU vulnerable to the winter ahead and plunging the EU deeper into the energy crisis, spreading fears of energy rationing and blackouts. High energy costs in the Eurozone are driving the Euro down, while inflationary pressures mount.
Eurozone headline CPI jumped to 9.1% on an annual basis in August, the highest on record. Inflation in the EU is expected to rise even further in the following months, possibly reaching double digits, driven by the high cost of energy in the Eurozone. Increased price pressures are forcing the ECB to take swift action to tackle inflation. Rising Eurozone inflation is expected to figure largely in determining the future ECB monetary policy.
Eurogroup meetings will be held on Friday and may affect the Euro. ECB President Christine Lagarde is due to deliver a speech at the Eurogroup, which may cause some volatility for the currency in the wake of Thursday’s ECB meeting.
The Sterling gained some ground against the dollar on Thursday, after touching its lowest level since 1984 on Wednesday. The GBP/USD climbed to the 1.151 level on Wednesday, paring some of its losses. If the GBP/USD rate goes up, it may encounter resistance near the 1.190 level, while if it declines, support may be found near 1.140, representing the 2020 low.
The Sterling dropped after Queen Elizabeth’s death on Thursday but did not exhibit high volatility, as the Queen’s health had been deteriorating for some time.
The Sterling has been under pressure by the ascend of the competing dollar for the past few weeks. On Wednesday and Thursday however, the dollar weakened, providing some support for the pound.
The Sterling posted its worst monthly low in August since 2016, pushed down by Britain’s grim economic outlook and political instability. A climate of political uncertainty has been putting pressure on the GBP over the past few months, especially after former PM Boris Johnson’s resignation in July. On Tuesday, Former Foreign Secretary Liz Truss formally became UK’s next Prime Minister, bringing a measure of stability and propping up the Sterling.
The latest UK GDP data have shown that the British economy is contracting, confirming the BOE’s forecast of reduced economic growth. The BOE has warned that recession is expected to hit the UK in the fourth quarter of this year, and is forecasted to last for five quarters, until the end of 2024, with GDP falling to 2.1%.
Britain’s poor economic outlook is preventing a more hawkish fiscal policy and is hampering the BOE’s attempts to bring inflation down. UK inflation reached double digits in July, with CPI climbing to 10.1% on an annual basis and is expected to rise even higher in the following months. Soaring energy and food prices put pressure on British households.
In its latest monetary policy meeting, the Bank of England decided to raise its interest rate by 50 base points, bringing the total interest rate up to 1.75%. The BOE has adopted a moderate stance, trying to strike a balance between battling inflation and supporting the sluggish economy. Markets are pricing in a rate hike of at least 50 bp at the next BOE policy meeting in September.
The Yen was stable against the dollar on Thursday, after plummeting to a 24-year low Wednesday. The USD/JPY rate retreated from Wednesday’s high of 145, hovering around the 144 mark. If the USD/JPY pair falls, support might be found near 138.0 and further down at 134.2. If the pair climbs, it may find further resistance at the 1998 high of 147.7.
Final GDP and Final GDP Price Index data released on Thursday for Japan were more optimistic than expected, showing that the economic outlook of Japan is improving and providing support for the currency. Final quarterly GDP rose by 0.9% against 0.7% expected and the Final GDP Price Index retreated by 0.3%, which was lower than the 0.4% drop expected.
The increased divergence between the US and Japanese monetary policies has widened the gap between their respective bonds, putting pressure on the Yen. The BOJ keeps bond yields low, weakening the Yen. On Wednesday, the BOJ announced that it would buy JPY550 billion of bonds, up from a prior level of JPY500 billion, aiming to keep the 10-year bond yield below 0.25%.
The BOJ maintains its ultra-easy monetary policy, keeping its main refinancing rate at -0.10%. Japan continues to pour money into the economy, while other countries are adopting a tighter fiscal policy. The difference in interest rates with other major Central Banks puts the Yen at a disadvantage, driving its price down.
Inflationary pressures are increasing in Japan, mainly due to the high cost of imported energy. The combination of a weak currency, low wages, and rising inflation is burdening Japanese households.
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Written by:
Myrsini Giannouli
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