Daily Market Brief 13 December 2017

Sterling Gains as Inflation Rises

December 13th: Highlights

  • MPC in difficult position
  • Brexit recriminations rumble on
  • Dollar focus on inflation and monetary policy

Prices/incomes gap to narrow despite higher inflation?

Inflation data for the U.K. in November was released yesterday. It seemed that no matter what, the Bank of England was going to continue to be questioned over the rate hike it sanctioned in early November. At the time of the hike, Mark Carney, the BoE Governor, said that he expected inflation to continue to rise but was contradicted when inflation was unchanged in October.

Yesterday’s release in inflation data for November showed that core inflation did rise, to 3.1% year on year. Carney will have to write to the Chancellor of the Exchequer explaining the steps he proposes to take to bring inflation back to the Government’s target of 2%.

The excuse that the weakness of Sterling has been feeding inflation is now starting to wear thin.

When looking at a monthly chart of Sterling since the Brexit vote, although it hasn’t returned to pre-referendum levels it has risen from its lows aided by a weakening of the dollar. It has been a little more mixed against the single currency, but its movements still don’t appear particularly inflationary.

The employment report which will be released today is expected to bring a little relief to the pound with wage increases likely to have risen to 2.5% year on year which will cut the gap between prices and incomes.

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Davis comments “unhelpful”

The rise in the pound following the inflation data was tempered a little by the effect of comments by Brexit Minister David Davis. It reached a high of 1.3381 versus the dollar before falling back as it failed to breach resistance. Against the Euro it was a similar story as resistance at 1.1450 also held firm and the pound closed at 1.1363.

Davis’ comments that the agreement that has been reached between the U.K. and EU over the three issues that the EU insisted be resolved before talks moved on to the future relationship is, in his opinion not legally binding drew a stinging response from EU officials. The Leader of the largest group in the European Parliament, Guy Verhofstadt, called the U.K. Brexit strategy that “of a toddler”.

There is unlikely to be much of a freeze in relations even following the expected endorsement of the agreement at the Summit which concludes today. Brussels sees the agreement as nothing more than the U.K. complying with its obligations. The U.K., however, sees itself as having become more accommodating and is therefore expecting more favourable terms when over trade following Brexit. It may be disappointed!

Inflation report unlikely to inspire Fed

Today will see the final change in monetary policy in the U.S. that is openly telegraphed by the Chairman of the Federal Reserve. This hike has been predicted since the summer despite becoming less and less necessary. The two previous rises the past twelve months have had more to do with asset prices than they have with inflation and a growing economy. While the Dow has continued to rise, it is easily available credit rather than its cost that is providing impetus. As Jerome Powell takes over the Chair, the Fed will need to start to withdraw its stimulus in the New Year

Today’s inflation report is unlikely to provide the FOMC with the confirmation it needs to justify the rate hike. Year on year core inflation is expected to be 1.8%, still shy of the Administration’s 2% target.

The dollar index remains hemmed in by strong technical levels between 92.50 and 94.30 although it did make a little ground yesterday. It reached 94.22 before falling back a little below 94.00.

As the market slows down after the FOMC meeting, trader’s thoughts will turn to the drivers for the dollar in 2018 and it could face a rocky few months unless inflation picks up driven primarily by a tightening of the labour market although successive employment reports have failed to inspire.

Have a great day!

About Alan Hill

Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.”