Expectations high ahead of critical central bank policy meetings
After looking decidedly vulnerable earlier in the week, FX trends favored a latter week risk asset rally with the Euro leading the currency charge. Expectations of intervention by European leaders, has led to a significant bounce across global markets with Mario Draghi’s vow to “to do whatever it takes to preserve the euro,” inspiring a material shift in sentiment. His comments were echoed by German Chancellor Angela Merkel and French President Francois Hollande in a joint statement on Friday. Still, history suggests this united exterior may only have a limited impact, unless leaders can convince markets their words can be backed-up by concrete action, and fast.
The key focus from the Euro area this week will be Thursday’s European Central Bank rate decision. While a follow up the quarter-point rate cut earlier this month may not be fully priced in, it’s clear the ECB have a lot to live up to. The ECB may decide to resume its bond buying operation and/or further LTRO purchases, in an effort to reduce borrowing costs and spur bank-to-bank lending. Also on the cards is a possible reduction of the rate the ECB pays on overnight deposits to encourage bank-to-bank lending and dissuade banks from side-lining capital. Whatever the result, like Europe’s counterpart across the Atlantic, the stakes are high and the already vulnerable Euro may take the brunt if leaders fail to deliver. Reports that ECB President Mario Draghi will meet with Bundesbank President Jens Weidmann this week, suggest an attempt to gain German support ahead the ECB’s policy meeting. Germany has in the past been staunchly opposed to easing initiatives such as peripheral bond purchases. Earlier in the week, German retail sales will be influential driver of sentiment alongside the release of employment and manufacturing data for both Euro-Zone and Germany.
Across the Chanel, it was another rough ride for Sterling last week with a shock fall in UK GDP forcing deep losses across earlier in the week before an impressive latter week reversal alongside its risk counterparts. After falling to lows around the 1.5470 levels, cable forged near two-percent gains from the lows to finish the week a respectable 0.80 percent higher. Apart from the London Olympics, the focus this week will once again turn to the Bank of England policy decision, which is expected to the committee hold benchmark interest rates at 0.50 percent and keep the asset purchase target on hold at £375 billion, after a £50 billion increase earlier this month. With Junes CPI print showing inflation at 31-month low of 2.4 percent, the Bank of England may now have the ample breathing space to provide further accommodative policy, nevertheless, it’s likely the central bank will wait to access the effects of previous easing initiatives before increasing the quantitative easing tally or slashing interest rates.
The U.S week ahead will once again see stimulus expectations take centre stage, with the FOMC rate decision a critical directive for the greenback. While interest rates will remain at record lows, the key driver will undoubtedly be tied to likelihood of further stimulus, or indeed if the Fed decide take the plunge and embark on a third round of quantitative easing. The stakes are high and any reluctance displayed from the Fed is likely to place significant burden on global sentiment and provide a twofold boost for the greenback, given its inverse relationship to stimulus and its safe-haven attributes. Acutely aware of these expectations, the Fed will at the very least need to display a willingness to embark on such easing initiatives to keep the status quo. The health of U.S employment will once again be put under the microscope this week with Non-farm payrolls on Friday’s docket. The U.S economy is expected to have created 100,000 jobs in July, slightly higher than the 80,000 recorded in June, while the official unemployment rate is expected to remain at 8.2 percent. Once again, this piece of top-tier data will be a critical directive for markets given Fed members have displayed a willingness to pull the stimulus trigger should employment growth remain subdued. Jobs related data points may sway market expectations in the lead up, with ADP employment change, Challenger job cuts, and weekly jobless claims due for release ahead of Friday’s main event. The health of U.S manufacturing will also be in the spotlight with ISM Manufacturing Index on Wednesday and Factory orders on Thursday.
Meanwhile, the Aussie dollar finished the week one-percent higher, clawing back losses after a near two-percent slump mid week. The domestic week ahead will see the focus turn to Thursday’s trade balance and retail sales data, with a number of less influential releases earlier in the week. True to form, feedback from both the Euro area and the U.S will remain a dominate force with the ECB and FOMC policy meetings followed by U.S Non-farm payrolls. Whatever the week may bring, forecasts for the A$ have rarely been so varied, given its reactive nature to economic policy abroad and strong ties to China growth expectations. China will remain a key influence this week with manufacturing PMI due for release on Wednesday, alongside the HSBC manufacturing gauge. Both the official and HSBC services PMI data will also be released on Friday.