Lower Inflation Cools Sterling

Sterling corrects as prices fall

The pound fell to a four-day low of 1.4173 yesterday as inflation data for March was released. Headline CPI fell to 2.5%, lower than the markets median expectation. Surprisingly, the chances of a rate hike by the Bank of England next month remain high with traders still considering a further hike in November to be the most likely path for interest rates.

Following Tuesday’s employment report traders are still of the view that MPC hawks will hold sway but with the Government being defeated in a vote on Brexit in the Upper House of Parliament yesterday several headwinds still face the UK. As the positives fade Sterling could face a deeper correction with the prospect of a further hike this year far from certain so close to the Brexit date.

The assumption is that the negotiations over the final Brexit agreement are proceeding smoothly but the Government still faces serious concerns over some critical elements, not least of all the Irish Border.

Sterling recovered a little following the initial fall following the inflation report but looks vulnerable with the post-Brexit high now looking a long way away.

Versus the Euro, the pound remains well supported despite a correction yesterday. It made a low of 1.1466 but looks ready to post further gains as the interest rate differential widens.

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Dollar rallies but Trade and Syria still provide headwinds

The sheer unpredictability of President Trump is becoming the single most important factor driving the value of the U.S. dollar. Yesterday Trump confirmed that the Director of the CIA, Mike Pompeo met with North Korean Leader Kim Jong-un to pave the way for direct talks between the two leaders. This is a major step forward for the region and something that was inconceivable as recently as a few months ago as the two traded barbs.

The dollar should be set to rally further with North Korea making progress, trade issues on the back burner and the air-strikes on Syrian Chemical weapons installations having proved effective. However, the market is still concerned about the “Trump effect” and how it will next manifest itself. Concerns over just how the twin deficits will be brought under control are creating ripples of concern on Wall Street and yields on Government debt are starting to rise.

The President finished a two-day summit with Japanese Prime Minister Shinzo Abe yesterday and was understanding of Japan’s “unique” economy and the need for a weaker Jpy. Trump is aware that Japan is America’s most important ally in Asia and he needs its support in ensuring that China remains “controlled” as far as is possible.

The dollar index remains in a narrowing range making a high of 89.78 yesterday as selling pressure close to 90.00 prevailed.

ECB inflation concerns could mean further stimulus

The legacy left behind when Mario Draghi leaves his post as ECB President next year will be how he has strived to ensure that monetary policy remains supportive for the entire Eurozone despite pressure for a normalization of rates from the stronger economies.

With inflation under control and continuing to fall there are some concerns among ECB council members that more stimulus may be needed to ensure the economy remains on track. If prices continue to fall, consumers tend to wait before making purchases in the hope that they will see things get cheaper. This creates a ripple across the economy which starts to slow. Some controlled inflation also provides manufacturers with profit. Slightly higher interest rates also encourage saving while consistently low interest rates provide no benefit to savers.

The ECB is in the very fortunate position that the single currency seems to have found a natural level between 1.2260 and 1.2520 which provides a stable basis for continued benign monetary policy. Yesterday the Euro traded in a narrow 57 pip range making a high of 1.2398 and closing just twenty points from its high. Ample liquidity remains in place which discourages speculative flows.