Key takeaways
- Burnham’s first PMQs outing leaves markets unconvinced
- Another big yen rally as markets weigh further intervention risks
- ECB enters ‘quiet period’ ahead of Governing Council meeting but its mind looks made up
- US Fed speeches more interesting than secondary labour market figures today
- Bank of Canada flags inflation risks, leaving rate hike risks elevated and USDCAD lower
Burnham’s first PMQs outing leaves markets unconvinced
PM Andy Burnham faced his first Prime Minister’s Questions session in Parliament yesterday, where MPs pressed him on the government’s plans to address the gap between spending and taxation. His answers were vague, limited by the fact that the Budget is only eight weeks away and many decisions remain outstanding. He did not rule out further tax rises or additional borrowing, and markets appeared unconvinced by the answers he gave. Investors remain aware that he has made spending commitments that leave little room within the fiscal rules without further tax increases.
The UK public finances face higher borrowing costs, weaker growth and higher inflation, all of which are placing pressure on departmental budgets and revenues. As I have stated previously, the UK does not have a tax revenue problem but a spending problem, and without major changes that could prompt a further increase in yields across the curve in the coming weeks.
GBPEUR fell to its lowest level since the beginning of July. A lack of robust fundamentals in either the UK or the Euro Area could place even greater focus on fiscal challenges and interest rate differentials. An additional decline of more than 1% in GBPEUR remains a risk if the pair fails to hold key levels close to current trading ranges.
Another big yen rally as markets weigh further intervention risks
USDJPY fell sharply in overnight trade as markets assessed the risks of further intervention from the Bank of Japan and Ministry of Finance, with USDJPY having moved above ¥160 in recent sessions. Headlines released early this morning suggest the BOJ now favours a 25 basis point interest rate increase, although beyond a September hike it is likely to take a watching brief and tie further tightening to economic developments.
The yen’s rally addresses some of the unique weakness the JPY has experienced relative to other Asian currencies, but the rebound was accompanied by another move lower in USDCNY.
Could the Japanese authorities surprise markets with intervention and a rate increase? Should they contemplate such a move, it could produce shockwaves across Asian currency markets more broadly, in my opinion.
ECB enters ‘quiet period’ ahead of Governing Council meeting but its mind looks made up
The ECB is now just a week away from its Governing Council meeting. It has entered the period during which officials will make no further public comment ahead of the decision and subsequent press conference. Officials have already said enough, however, and markets have listened. A rate rise is overwhelmingly priced in, meaning attention has shifted to how the ECB may signal its approach to future tightening and how it expects growth and inflation risks to evolve from here.
The ECB has attempted to frame current growth rates as acceptable, in some cases even suggesting economic performance has been solid. It looks nothing like that to me. Weak growth, coupled with increased spending commitments towards defence, risks higher deficits in the coming years. The euro may benefit from narrowing interest rate differentials between the Euro Area and other major Western economies, but additional upside against the USD could prove challenging, in my opinion.
US Fed speeches more interesting than secondary labour market figures today
The Fed has several speakers due to comment today. Governor Waller, Cleveland Fed President Hammack and Chicago Fed President Goolsbee are all scheduled to speak later. Their remarks may attract greater attention than the Challenger job cuts figures for August, the latest weekly jobless claims data, and the services PMI and ISM readings for August.
The US economy appears to be performing well on the surface, but cracks in the economy continue to emerge through a weak housing sector, lower corporate profit margins and reduced US office occupancy levels, which remain near record lows despite return-to-office mandates from several high-profile employers.
The Fed is well aware that the rise in inflation is being driven by geopolitical developments and tariffs. The challenge will be whether this feeds into second-round inflation effects. So far there is little evidence of that in wage growth, meaning pressure on household disposable incomes is building as inflation in essential goods and mortgage costs increases.
Bank of Canada flags inflation risks, leaving rate hike risks elevated and USDCAD lower
Yesterday’s Bank of Canada interest rate decision was straightforward, with the overnight rate left unchanged at 2.25%. Officials highlighted that inflation remains too high and that the ongoing conflict in the Middle East and recent trade tensions have increased inflation risks.
The Bank of Canada noted that the broader economy has been unaffected by the shift in tariffs, suggesting the impact on activity ought to be limited. That indicates more weight is currently being placed on inflation than growth.
The risk therefore remains that the BOC will raise interest rates unless there is a marked improvement in the inflation outlook. Given increased tensions in the Middle East, such expectations appear misplaced currently, in my opinion. USDCAD fell in the aftermath of comments from BOC officials following the meeting, but the risk of further declines may be deferred until after tomorrow’s US non-farm payrolls release, in my opinion.
Credit to Moneycorp