Important calendar events
The dollar maintained its upward momentum on Monday, with the dollar index touching the 101.9 level. US Treasury yields remained high, with the US 10-year bond oscillating around the 4.00% level.
The U.S. Federal Reserve raised interest rates by 25 basis points last week, after holding its interest rate steady at its June policy meeting. Fed officials voted unanimously on Wednesday to raise the central bank’s interest rate to a target range of 5.25% to 5.50%, the highest level in 22 years.
The Fed’s decision to resume economic tightening, however, was widely anticipated and had already been priced in by markets. The dollar dropped sharply after the Fed announcement as markets were trying to interpret the Fed’s future intentions. Markets had time to digest the news on Thursday, which was more hawkish than anticipated, boosting the dollar.
The Fed’s forward guidance remained the same, stressing that future steps would be determined by several parameters, including the cumulative effect of tightening on the economy, the progress of inflation, as well as other financial developments. The Fed’s message was ambiguous, aiming to give the central bank flexibility towards adjusting its future monetary policy and adopting a data-dependent approach.
There is considerable doubt on whether the Fed will continue hiking rates after last week’s rate increase. Cooling US inflation rates have shifted Fed interest rates expectations towards a less hawkish direction putting pressure on the dollar.
Core PCE Price Index data last week, enhanced this notion. This is the Fed’s preferred inflation gauge, and signs of cooling inflation may influence the Fed’s next rate decision. Core PCE rose 0.2% every month in July, bringing the annual rate to 4.1%, against expectations of 4.2%.
In addition, US Inflation cooled significantly in June, showing that the Fed’s efforts are paying off. Headline inflation dropped sharply to 3.0% in June from 4.0% in May versus the 3.1% forecast. US monthly inflation rose by 0.2% against the 0.3% forecast, indicating that a weakening trend in inflation is prevailing. Core inflation, which excludes food and energy, dropped to 4.8% on an annual basis in June from 5.3% in May versus the 5.0% forecast. Core inflation had been particularly sticky up till now but finally dropped to the lowest since October of 2021.
Advance US GDP data showed that the US economy expanded by 2.5% in the second quarter of the year, against expectations of only 1.8% growth.
EUR/USD declined on Monday as the dollar gained strength, and the currency pair dropped below the 1.100 level. If the EUR/USD pair declines, it may find support at 1.094, while resistance may be encountered near 1.115.
Flash CPI data for July on Monday showed that inflationary pressures in the Eurozone are easing. Euro Area headline inflation fell to 5.3% year-on-year in July from 5.5% in June. Core CPI, which excludes food and energy, remained at 5.5% on an annual level against the expectation of 5.4%. The ECB’s efforts to bring inflation down seem to be paying off, easing some of the pressure on the central bank to continue its monetary tightening.
Preliminary GDP data for the second quarter of the year on Monday showed that the Eurozone economy expanded by 0.3%, exceeding expectations of 0.2% growth, after contracting by 0.1% in Q1 of 2023.
The ECB raised interest rates by 25 bp at its July policy meeting, bringing its main refinancing rate to 4.25%. The ECB’s forward guidance was not as decisively hawkish as anticipated, though. The central bank hinted that future rate decisions will be data-based.
ECB President Christine Lagarde stated that the central bank’s focus was a timely return of inflation to the 2% medium-term target, leaving the door open for another rate hike in September. Lagarde, however, remained non-committal in her press conference about the possibility of a hike in September. This is a dovish sign given Lagarde’s decisively hawkish stance in the past few months.
GBP/USD edged lower on Monday, dropping to 1.284. If the GBP/USD rate goes up, it may encounter resistance near 1.299, while support may be found near 1.276.
The BOE meets this week on August 3rd and markets are leaning towards a 25-bp rate hike, without completely discounting the possibility of another rate increase by 50 basis points. The BOE is expected to continue to increase interest rates as it fights to bring inflation down. The BOE has been following an aggressively hawkish monetary policy, aiming to bring inflation down.
The BOE raised interest rates by 50 basis points at its June meeting, bringing the bank rate to 5.0%. Sticky inflation in the UK is putting pressure on BOE policymakers to increase interest rates. BOE Governor Andrew Bailey has warned that if price pressures remain persistent, further tightening would be required. Bailey vowed last week to "see the job through" by bringing down inflation and providing price stability.
Signs of cooling inflation eased some of the pressure on the BOE to maintain its aggressively hawkish policy. British inflation dropped unexpectedly in June, indicating that the BOE may not have to raise rates as high as expected. Headline inflation in the UK eased to its lowest level in over the year, dropping to 7.9% year-on-year from 8.7% in May against expectations of an 8.2% print. Core CPI, which excludes food and energy, also came in at 6.9% for June compared with May's three-decade high of 7.1%, while markets were anticipating a 7.1% print.
Britain’s economy contracted by 0.1% month-on-month in May after an expansion of 0.2% in April. The British economy shrank less than expected, however, as markers were anticipating a 0.3% contraction in May. GDP was stagnant in the 3 months to May.
USD/JPY soared on Monday, climbing to 142.5. If the USD/JPY pair declines, it may find support near 138. If the pair climbs, it may find resistance at 142.7.
The BOJ showed signs of relaxing its ultra-easy policy last week. The central bank maintained its short-term interest rate target steady at -0.10% as expected.
The central bank, however, has loosened its yield curve control. The BOJ maintained the band around the 10-year Japanese government bond yields of +- 0.5% with the yield target around 0% but will offer to purchase 10-year bond yields at 1% through fixed-rate operations. This will maintain the rate ceiling but effectively allow rates to float beyond the cap, allowing for rises by a further 50 basis points. Markets have interpreted this tweak in the BOJ’s monetary policy as a step towards an eventual shift in the bank’s massive stimulus program.
BOJ Governor Kazuo Ueda, however, stated that relaxing the yield curve control policy is not intended as a step toward policy normalization, but rather as a step aimed at enhancing the sustainability of the policy. Markets have been anticipating a hawkish shift in the BOJ’s policy for some time now, but BOJ officials had been unyielding in their dovish stance. Signs of rising inflation, however, are encouraging the BOJ to tighten its monetary policy.
National Core CPI rose to 3.3% in June from 3.2% in May. Inflation in Japan continues to rise contrary to BOJ’s expectations and has exceeded BOJ’s target for more than a year. BOJ Core CPI dropped slightly to 3.0% in July from 3.1% in June. Inflation in Japan remains steadily above the BOJ’s 2% target, putting pressure on businesses and households.
Final GDP data for the first quarter of the year showed that the Japanese economy expanded by 0.7%, against a preliminary GDP print of 0.4%. The GDP data exceeded expectations, alleviating recession concerns for Japan. Final GDP Price Index showed a 2.0% annual expansion, versus 1.2% the previous quarter. Japan’s economic recovery increases the odds of a hawkish pivot in BOJ’s monetary policy.
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Written by:
Myrsini Giannouli
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