Jackson Hole fails to inject fresh momentum into FX market

USD: US PCE deflator & NFP reports in focus in the week ahead

The major foreign exchange rates have remained relatively stable at the start of the week after last week’s Jackson Hole symposium failed to inject fresh momentum in the FX market. It leaves the US dollar continuing to trade close to recent highs with the dollar index at just below the 104.00-level. Month to date the dollar index has strengthened by around 2.0%. In his keynote speech at Jackson Hole Fed Chair Powell chose not to rock the boat and played it safe by reiterating the policy message from the latest policy meeting. He emphasized that the current stance of monetary policy is restrictive with real interest rates now positive and well above estimates of the neutral policy rate. He expects the current restrictive policy stance to put downward pressure on economic activity, hiring and inflation. At upcoming policy meetings, the Fed will proceed carefully when deciding whether to tighten policy further or, instead, to hold the policy rate constant and await further data. The Fed is prepared to raise rates further if appropriate, and intends to hold policy at restrictive level until they are confident that inflation is moving sustainably down toward their target. It is a message that is consistent with the latest DOT plot from the Fed that had still pencilled in the possibility of one final hike later this year and then followed up by 100bps of rate cuts next year once the Fed is more confident that inflation is moving sustainably toward their 2.0% target.

In the speech Fed Chair Powell acknowledged that the US economy has proven more resilient than expected this year when it has continued to expand above its longer-term trend, and that recent readings of consumer spending have been especially robust pointing to a pick-up in growth in Q3. While he didn’t say that current conditions could justify a further hike, he did say that “additional evidence of persistently above-trend growth could pit further progress on inflation at risk and could warrant further tightening of monetary policy”. Similarly, evidence that the tightness in the labour market is no longer easing could also call for a monetary policy response. The Fed will be watching closely in the week ahead the releases of the latest PCE deflator and non-farm payrolls reports to determine what policy action to take at the next FOMC meeting on 20th September. We still expect the Fed to leave rates on hold next month assuming that both reports continue to provide evidence of slowing inflation and employment growth. It is a view that is already well priced into the US rate market and US dollar with only 5bps of hikes for September. Whether the Fed will deliver a final hike later this year remains more uncertain as the Fed continues to navigate by the “stars under cloudy skies”. Overall we don’t expect the developments to alter the US dollar’s recent bullish momentum that is driven more by concerns over weak growth outside of the US.
          

LEVERAGED FUNDS HAVE INCREASED LONG EUR POSITIONS RECENTLY 

Source: Bloomberg, Macrobond & MUFG GMR

EUR: ECB rate hike in September judged as a close call ahead of CPI report

The euro is continuing to trade against the US dollar just above support from the 200-day moving average that comes in at around 1.0810. The week ahead could prove important in determining whether the ECB will hike rates further in September or pause their hiking cycle with the latest euro-zone CPI report for August released on Thursday. The report is expected to reveal that headline inflation slowed further to 5.1% while core inflation remains more stable at 5.3%. So far this year core inflation has averaged 5.5% and hit a cyclical high of 5.7% in March. Another uncomfortably high core inflation reading for August could keep pressure on the ECB to hike rates by a further 25bps next month that would lift the deposit rate up to 4.00%. On the other hand, recent rhetoric from the ECB and evidence of economic weakness in Q3 favour a more cautious policy stance from the ECB. At the last policy meeting, the ECB signalled for the first time that the policy rate is now sufficiently restrictive. At her speech at Jackson Hole, President Lagarde refrained giving a clear signal over whether further hike was likely next month. She emphasized that in the current environment the ECB should set interest rates at sufficiently restrictive levels for as long as necessary to achieve a timely return of inflation to their 2% medium-term target. The latest data flow from the euro-zone continues to caution against further hikes. The PMI surveys released last week signal an increased risk of GDP contraction in Q3, and the latest euro-zone money supply data for July highlighted that the impact of tighter policy is continuing to feed through. We still expect a rate pause in September and view risks as skewed to the downside for the euro in the near-term (click here).       

KEY RELEASES AND EVENTS

Country	BST	Indicator/Event	Period	Consensus	Previous	Mkt Moving
EC	11:00	European Union Economic Forecasts	--	--	--	!!
US	14:00	S&P/CS HPI Composite - 20 s.a. (MoM)	Jun	1.2%	1.0%	!
US	15:00	JOLTs Job Openings	Jul	9.465M	9.582M	!!!

Source: Bloomberg