Important calendar events
The dollar remained weak on Monday, and the dollar index dropped to the 103.3 level. US treasury yields also edged lower on Monday, with the US 10-year bond yielding approximately 4.40%.
At the latest Fed meeting in November, FOMC members voted to keep interest rates unchanged at a 22-year high within a target range of 5.25% to 5.50%. The Fed has made it clear that its approach from now on will be data-driven and Tuesday’s inflation data have brought the odds of a rate hike in December to zero. Markets are always ahead of events and are already pricing at an end to the Fed’s tightening policy. Market odds of another rate hike in December have dropped to zero, while markets are pricing in rate cuts as early as March.
The minutes of the Fed’s November meeting were released on Tuesday. The meeting minutes did not hold any surprises and market reaction to their release was subdued. The minutes, however, emphasized that interest rates will likely remain in restrictive territory for some time.
The Fed’s hawkish stance over the past year has been paying off and US price pressures are cooling. Inflation in the US eased more than expected in October, driving down rate hike expectations and putting pressure on the dollar.
Headline inflation rose by 3.2% year-on-year in October from a 3.7% reading in September and against expectations of a 3.3% print. Monthly CPI remained unchanged from the previous month in October, while markets were anticipating a 0.1% raise. Core CPI, which excludes food and energy, also surprised on the downside.
The US economy seems to be recovering, boosting the dollar. Advance GDP data for the third quarter of 2023 showed that the US economy expanded by 4.9%, against expectations of 4.5% growth and far surpassing the 2.1% growth of Q2. Advance GDP price index for the 3rd quarter of the year reached 3.5%, exceeding expectations of a 2.7% print.
CB consumer confidence is scheduled to be released on Tuesday, which is a leading indicator of economic activity and health.
The Fed is in focus again this week, with several policymakers delivering speeches throughout the week. Fed chair Jerome Powell’s speech on Friday is expected to attract the markets’ attention and is likely to cause volatility in the price of the dollar.
EUR/USD traded sideways on Monday, oscillating around the 1.094 level. If the EUR/USD pair declines, it may find support at 1.085, while resistance may be encountered near 1.096.
The ECB decided to keep its benchmark interest rates unchanged at 4.50% in October. Markets anticipate that the ECB has hit its rate ceiling, putting pressure on the Euro. The ECB is tasked with assessing the risk to the fragile Eurozone economy against high inflation rates.
ECB President Christine Lagarde has hinted at an end to rate hikes. Lagarde has highlighted the risks to the Eurozone economy stressing that the economy is likely to remain weak for the remainder of the year. Lagarde has also repeatedly stated that it is too early to talk about rate cuts and warned that interest rates will remain at sufficiently restrictive levels for as long as necessary.
In her testimony at the Committee on Economic and Monetary Affairs of the European Parliament, in Brussels on Monday, Lagarde maintained her cautious stance. Lagarde stated that the fight against inflation is progressing but it is not over yet, signaling steady policy over the next few months.
The economic outlook of the Eurozone appears to be deteriorating, putting pressure on the Euro. Flash GDP data for the Euro area showed that the Eurozone economy contracted by 0.1% in the third quarter of the year, which was in line with expectations. The Eurozone economy barely expanded in the second quarter by 0.1%, after contracting by 0.1% in Q1 of 2023. The EU economy is struggling and cannot withstand much further tightening.
Headline inflation in the Eurozone fell to its lowest level in two years in October, mainly due to a drop in energy prices. CPI cooled to 2.9% year-on-year in October from 4.3% in September. Core CPI Estimate, which excludes food and energy, eased to 4.2% year-on-year in October from 4.5% in September. The ECB’s efforts to curb inflation rates are paying off, even at the cost of decreased economic growth.
The Sterling extended gains on Monday and GBP/USD rose to the 1.264 level. If the GBP/USD rate goes up, it may encounter resistance near 1.280, while support may be found near 1.237.
British Prime Minister Rishi Sunak announced on Monday a bundle of foreign investments in Britain ahead of a gathering of business leaders later in the week. British finance minister Jeremy Hunt released last week the Autumn update on the British budget. Hunt announced tax cuts in an attempt to stimulate the stagnant economy. The latest budget update included a forecast of higher government debt issuance, which boosted the Sterling.
BOE Governor Andrew Bailey has warned that inflation risks may need more aggressive action and stressed that the BOE will be holding interest rates in restrictive territory long enough to see inflation down to the bank’s 2% target.
In an interview on Monday, Bailey appeared to be more hawkish than anticipated, propping up the Sterling. Bailey stressed that getting inflation back down to the BOE’s 2% target will take time. Even though the current restrictive policy is hurting economic growth, the BOE has no choice but to continue its battle against inflation.
The BOE maintained its official rate at 5.25% at its latest meeting, which was in line with expectations. The BOE has likely reached its rate ceiling but will keep interest rates on hold for a long time to bring inflation down.
CPI data showed that British inflation cooled more than forecast in October, reinforcing expectations that the Bank of England has ended its hiking cycle and will be cutting interest rates by the middle of next year. Headline inflation in the UK rose by 4.6% year-on-year in October, registering a dramatic drop from September’s 6.7% increase. Annual Core CPI, which excludes food and energy, grew by 5.7% in October versus 6.1% in September and 5.8% forecast.
Recent fundamentals have shown that the British economy remains fragile, reinforcing the notion that the BOE has reached its peak interest rates. Prolonged tightening has taken its toll on the labor market and other vital economic sectors.
UK GDP data revealed that the British economy remained stagnant during the third quarter of 2023. The British economy expanded by 0.3% in the first quarter of the year and 0.2% in the second quarter. Economic growth is slowing down in the UK and the country is on the brink of recession.
A compelling economy and high inflation are making the BOE’s task more difficult. Further tightening is needed to bring inflation down at the risk of tipping the British economy into recession.
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The Yen gained strength on Monday, and the USD/JPY dropped to 148.6. If the USD/JPY pair declines, it may find support near 147.1. If the pair climbs, it may find resistance at 149.7.
The Fed’s hawkish policy seems to be gradually coming to an end, relieving some of the pressure on the Yen, which has been weakened by the BOJ’s dovish policy. The BOJ has so far maintained its dovish bias, putting more pressure on the Yen as other major central banks, and especially the Fed, have raised interest rates to high levels.
The BOJ maintained its short-term interest rate target steady at -0.10% and that for the 10-year government bond yield around 0% set under its yield curve control, but redefined the 1.0% limit as a less restrictive ceiling rather than a rigid cap. Even though the BOJ tweaked its yield curve control policy slightly, markets were expecting a bigger shift in policy, and the Yen plummeted after the interest rate announcement.
Preliminary GDP data showed that Japan's economy contracted in the third quarter of the year. The world's third-largest economy contracted by 0.5% in the third quarter against estimates of a 0.1% contraction. The Japanese economy expanded by 1.2% in the second quarter of 2023, showing that the country’s economy is shrinking and is on the brink of recession. Preliminary GDP Price Index showed a 5.1% annual expansion in Q2, versus 3.5% the previous quarter. This is a measure of inflation, which shows that inflationary pressures are rising in Japan, increasing the odds of a hawkish shift in the BOJ’s policy.
National Core CPI, which excludes food and energy, continued to accelerate in October increasing the odds that the BOJ will soon end its ultra-accommodating policy. National Core CPI rose by 2.9% year-on-year in October from 2.8% in September against expectations of a 3.0% print. Inflation in Japan has remained above the BOJ’s 2% target for more than a year, encouraging the BOJ to tighten its monetary policy.
BOJ Core CPI is due on Tuesday and will provide further information on inflationary pressures in Japan.
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Written by:
Myrsini Giannouli
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