Date: May 23, 2023
The US dollar faced challenges at the start of the week, experiencing setbacks towards the end of the previous week. Consequently, the dollar index retreated from its peak of 103.62 during intra-day trading and settled around the 103.00-level. Despite this, the dollar managed to finish the week on a higher note for the second consecutive time, a trend not seen since late February.
The initial setback for the US dollar was triggered by relatively dovish comments made by Fed Chair Powell during the Laubach conference on Friday. Powell acknowledged the previous need for tightening policies but noted that the current stance is restrictive due to progress made in tightening measures. He expressed concerns about the delayed effects of prior tightening and the potential impact of recent banking stresses on credit tightening. Powell stressed the importance of carefully assessing data and the evolving economic outlook before making any decisions.
He also recognized that the risks of doing too much or too little are now more balanced. When questioned about the divergence between market expectations and the Fed’s policy outlook, Powell did not strongly oppose the market’s forecast of multiple rate cuts by the end of the year. He pointed out that the market’s pricing is based on a different forecast regarding the speed of disinflation and the likelihood of a significant economic downturn. Powell maintained that the incoming data aligns with the Fed’s view that it will take more time for inflation to subside, which is in line with market participants’ views.
Overall, Powell’s comments did not strongly indicate that the Fed is planning further rate increases at the upcoming policy meeting on June 14th. As a result, expectations for a June rate hike in the US rate market have diminished, with only a modest increase of around 2 basis points being factored in.
The second setback for the US dollar on Friday stemmed from a temporary breakdown in talks regarding the US debt ceiling. This development also contributed to the lowered expectations for a June rate hike. Following a recent call between President Biden and McCarthy, as well as further discussions among key negotiators, the urgency to reach an agreement to raise the debt ceiling by the end of the month was emphasized by Treasury Secretary Yellen.
She warned that some bills would go unpaid if the government breaches the June 1st deadline. The likelihood of the government being able to sustain operations and meet all obligations until mid-June is considered quite low. The progress in US debt ceiling negotiations is expected to significantly influence financial markets and foreign exchange movements in the upcoming weeks.
GBP: UK inflation expected to decrease sharply in the week ahead
Looking ahead to the coming week, market participants will closely watch the release of the latest UK Consumer Price Index (CPI) report on Wednesday and the US Personal Consumption Expenditures (PCE) deflator report on Friday.
The UK CPI report is anticipated to reveal a significant decline in headline inflation. According to the current Bloomberg consensus, headline inflation is expected to drop to 8.2% in April from 10.1% in March. This decrease will primarily be driven by disinflation in the energy price component.
The 54% increase in the energy price cap for gas and electricity tariffs implemented in April 2022 will no longer be included in the annual inflation calculation. Ofgem, the energy regulator, is scheduled to announce the energy price cap for July to September on Thursday. It is expected to decrease closer to GBP2,000 from the current cap of GBP2,500 for April to June, further indicating that the negative energy price shock on the UK economy is diminishing.
Despite the UK economy displaying greater resilience than expected to the negative terms of trade shock from last year, which led the Bank of England (BoE) to revise its recession forecasts for the UK, the CPI report is unlikely to alleviate concerns regarding underlying inflation pressures. These pressures have prompted the BoE to continue raising rates, as there are fears that inflation could persist at higher levels.
In their latest Quarterly Report projections, the BoE also expressed less optimism about the speed at which food inflation will decline this year. Based on my forecast, I anticipate one final 25 basis points hike from the BoE in June, and the recent BoE inflation forecasts have set higher expectations for upside inflation surprises in Q2.
In light of the US dollar’s recent rebound, the British pound has retreated below the 1.25000-level against the dollar after reaching an intra-day high earlier this month at 1.2680. However, the pound has maintained a relatively stronger position against the Euro, with the EUR/GBP pair trading close to recent lows, just below the 0.8700-level.
If underlying inflation pressures persist and support expectations for multiple rate hikes by the BoE, it could provide strength to the pound in the week ahead. Conversely, the main downside risk for the pound would be if underlying and food price inflation ease alongside the expected sharp decline in energy price inflation.
Additional Statistics:
– The dollar index retreated from its intra-day high of 103.62, falling back to around the 103.00-level.
– The US dollar ended the week higher for the second consecutive time, a trend not seen since late February.
– Expectations for a June rate hike in the US rate market have diminished, with only a modest increase of around 2 basis points being priced in.
– The UK Consumer Price Index (CPI) is expected to drop to 8.2% in April from 10.1% in March.
– Ofgem, the UK energy regulator, is scheduled to announce a decrease in the energy price cap for July to September, indicating a diminishing negative energy price shock on the UK economy.
– The British pound has retreated below the 1.25000-level against the US dollar but remains relatively stronger against the Euro, trading just below the 0.8700-level.
– The US debt ceiling negotiations faced a temporary breakdown, contributing to lowered expectations for a June rate hike and impacting the US dollar.
– Treasury Secretary Yellen emphasized the urgency to reach an agreement to raise the debt ceiling by the end of the month, warning that some bills could go unpaid if the government breaches the June 1st deadline.
– The progress in US debt ceiling negotiations is expected to have a significant impact on financial markets and foreign exchange movements in the upcoming weeks.
– The US dollar’s setbacks and reduced rate hike expectations have created a more uncertain outlook for the currency.
– The upcoming release of the UK Consumer Price Index (CPI) report is anticipated to show a significant decline in headline inflation, primarily driven by disinflation in the energy price component.
– The decrease in energy price inflation and expectations of multiple rate hikes by the Bank of England (BoE) could provide strength to the British pound in the week ahead.
– However, concerns regarding underlying inflation pressures and the potential persistence of inflation at higher levels may continue to prompt the BoE to raise rates.
– The recent rebound of the US dollar has led to the British pound retreating against the dollar, but maintaining a relatively stronger position against the Euro.
– The US debt ceiling negotiations breakdown has added uncertainty to the financial markets.
– Expectations for a June rate hike in the US have diminished due to the setbacks and remarks by Fed Chair Powell.
– The progress in US debt ceiling negotiations is anticipated to impact financial markets and foreign exchange movements.
– The UK CPI report is expected to show a significant decline in headline inflation, driven by disinflation in the energy price component.
– The British pound has faced fluctuations against the US dollar and remains relatively stronger against the Euro.
References-
https://commonslibrary.parliament.uk/research-briefings/cbp-9491/
https://www.bankofengland.co.uk/
https://www.investopedia.com/ask/answers/070516/why-british-pound-stronger-us-dollar.asp
