Important calendar events
The dollar gained strength early on Tuesday, with the dollar index dipping to the 104.3 level but dropping back to 104.1 later in the day. US Treasury yields rose slightly, with the 10-year bond yield touching 3.7%.
Concerns about a potential US debt default have been causing economic uncertainty and affecting the dollar's price. US President Joe Biden and Republican House Speaker Kevin McCarthy have negotiated a deal that will raise the government's $31.4 trillion debt ceiling, preventing the US from going into default. The US Congress passed the deal to raise the US debt limit on Friday, and the US President signed the deal on Saturday. As fears of a US debt default abated, the safe-haven dollar lost support.
Market odds that the Fed will continue raising interest rates are going down, and markets anticipate a pause in rate hikes at the next policy meeting in June. The Federal Reserve raised interest rates by 25 basis points at its latest monetary policy meeting, bringing the benchmark interest rate to a 16-year high target range of 5.00% to 5.25%.
US Federal Reserve Chair Jerome Powell has indicated that the US Central Bank may pivot towards a more dovish direction. Many analysts predict that there is a high probability of rate cuts starting in November, depending on economic conditions and inflationary pressures.
The US economy expanded by 1.3% in the first year of 2023, against predictions of 1.1% growth. The preliminary GDP Price Index, which is an important inflation gauge, exceeded expectations, rising by 4.2% in Q1 of 2023 versus 4.0% anticipated.
US 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.
The US Core PCE Price Index, however, rose 0.4% monthly in April, versus a forecast of 0.3%. Core PCE, which is the Fed’s primary inflation gauge, went up by 4.7% year-on-year in April, having gained by 4.6% in March. Inflationary pressures in the US remain sticky, suggesting that the Fed may have to persist with its policy of monetary tightening to restore price stability.
The Euro traded sideways against the dollar on Tuesday, and EUR/USD oscillated around the 1.070 level. If the currency pair goes up, it may encounter resistance near 1.078. If the EUR/USD pair declines, it may find support at 1.063.
Economic activity data released on Tuesday for the Eurozone were disappointing, putting pressure on the currency. Retail sales remained stagnant in April, against expectations of 0.2% growth. German factory orders declined by 0.4% in April, falling below expectations of 2.7% growth. April’s decline in German factory orders was lower than March’s 10.9% contraction.
ECB President Christine Lagarde stated on Monday that inflationary pressures in the Eurozone remain high and that borrowing costs will be raised further to tackle them. Lagarde’s comments point to further rate hikes ahead, while the US Fed has signaled a pause in rate hikes.
The ECB raised interest rates by 25-bp at its latest monetary policy meeting, 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 ECB has left the door open for further rate hikes as inflationary pressures in the EU remain high.
Headline inflation in the Eurozone cooled to 6.1% year-on-year in May from 7.0% in April, beating expectations of 6.3%. Core Inflation, which excludes food and energy, also slowed to 5.3% on an annual basis in May versus 5.6% in April and a 5.5% forecast. The latest inflation print is showing that the ECB’s efforts to bring inflation down are paying off, but it will likely not be sufficient to induce the central bank to abandon its hawkish policy just yet.
GDP Flash data for the first quarter of the year showed that the Eurozone economy expanded by 0.1%, registering a small improvement against the 0 print for the final quarter of 2022.
The Sterling traded sideways against the dollar on Tuesday, with GBP/USD fluctuating around 1.243. If the GBP/USD rate goes up, it may encounter resistance near 1.254, while support may be found near 1.230.
Economic activity indicators released on Tuesday for the UK were mixed. BRC Retail Sales expanded by 3.7% in May but fell below expectations of 5.7% growth. Construction PMI data came in at 51.6 in May, above the 50 marks, which signals growth. May’s data exceeded expectations of a 50.9 print and went up from 51.1 in April.
Headline inflation in the UK dropped below 10% on an annual basis in April for the first time since August 2022. Inflation in the UK is starting to cool, although not as rapidly as anticipated. Headline inflation rose by 8.7% year-on-year in April from 10.1% in March, surpassing expectations of 8.2%. Core CPI, which excludes food and energy, however, rose to 6.8% on an annual basis in April from 6.2% in March.
BOE governor Andrew Bailey has warned that inflation in the UK is persistent and will require further tightening to bring inflation to target. The BOE raised interest rates by 25 basis points at its latest meeting in May, bringing the bank rate to 4.5%. 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.
The British economy contracted by 0.3% in April after registering stagnation in March. The International Monetary Fund, however, upgraded the UK’s growth prospects, stating that a recession was now unlikely. The IMF had previously forecast that the British economy would contract by 0.6% this year.
The UK’s weak 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.
USD/JPY moved sideways with low volatility on Tuesday, oscillating around the 139.6 level. USD/JPY had been moving close to a six-month peak earlier this week. If the USD/JPY pair declines, it may find support near 137.4. If the pair climbs, it may find resistance at 141.
Economic activity indicators released on Tuesday were disappointing, putting pressure on the Yen. Average Cash Earnings expanded by 1.0% on an annual basis in April, against 1.3% growth in March and expectations of 1.7% growth. Household spending contracted by 4.4% year-on-year in April, falling below expectations of a 2.2% drop and a smaller decline of 1.9% in March. Consumer spending is one of the most important gauges of economic health, and its decline indicates a poor economic outlook.
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%.
Ueda has stated that monetary policy will remain accommodative until the bank’s 2% inflation target becomes sustainable. He also predicted that price pressures would fall sharply in the next year.
BOJ Core CPI rose to 3.0% year-on-year in April from 2.9% in March. April’s print exceeded expectations of 2.8% growth, indicating that price pressures in Japan continue to rise. The Tokyo Core CPI for April was also 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.
Preliminary GDP data for the first quarter of the year were optimistic, showing that the Japanese economy expanded by 0.4% in Q1 of 2023 after reaching stagnation during the last quarter of 2022. The GDP data exceeded expectations of 0.2% growth in the first quarter of the year, alleviating recession concerns for Japan. The final GDP Price Index printed showed a 2.0% annual expansion versus 1.2% the previous quarter. Japan’s economic recovery increases the odds of a hawkish pivot in the BOJ’s monetary policy.
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Written by:
Myrsini Giannouli
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