Last week’s surveys and data releases were a mixed bag, with the US economy still showing signs of economic strength (retail sales and industrial production), but the UK and Euroland recording additional weakness (UK – monthly GDP & labour market; Euroland – industrial production and German ZEW [1] current situation). The weakness of the global economy is becoming more evident, with the problems in the likes of China and other Asian economies likely to have an effect on global activity as well. What that could mean is weaker global inflation pressures in the medium term, despite efforts from OPEC [2] to push up energy prices over recent months. 

The focus for this week will be on the US and UK central bank meetings, with the Federal Reserve (Fed) due to announce on Wednesday and the Bank of England (BoE) announcing on Thursday. The markets see virtually no chance that the Federal Reserve will hike again on Wednesday, albeit that inflation overshot by more on a headline basis in the latest month, retail sales continue to grow strongly, and industrial production is around 1.5% higher than it was pre-COVID. There is a possibility that the Fed will hike before the end of the year, but I think that this would be a mistake, given that any residual inflation pressures now appear to be coming from outside influences. Unless the Fed is adopting a ‘strong-dollar’ policy for itself (not to be confused with government policy) then hiking interest rates will have virtually no effect on inflation in my view. As for the Bank of England, a 25-basis point hike is broadly priced into the market, but the interest for FX markets will be whether the language the BoE uses will change, hinting that another hike in interest rates at the next meeting is unlikely on balance. 

I’ve already mentioned OPEC’s efforts to push up energy prices, but that could be a greater drag on economic activity. The oil price has risen over 30% since mid-June, increasing the cost of freight as well as packaging and other elements in the production chain. The short-term inflationary effects of this are only likely to slow down growth further, and make recession a greater risk, in my view. With the Chinese economy requiring further stimulus last week, but yet to record any improvement, this rise in energy costs could backfire in the same way that the 2008 rise in oil prices mostly likely made the scale of the global recession in 2008/09 (financial crisis) larger and more prolonged. 

The pound and the euro have another challenging week in front of them. From Euroland, there is a lack of significant data and survey releases due, and having tested the May lows twice last week, EURUSD appears to be setting itself up for another test this week. Perhaps we see a break this time, and a push towards the March lows at $1.0516. The low for 2023 is at $1.0484, and beneath there the EUR could have a lot more problems ahead of it. As for the pound, Wednesday’s release of consumer price inflation figures for August could see a higher headline print, but the core inflation figure is expected to start tracking lower. Unless the BoE do something strange, the pound’s best chance of recovery comes in the form of Friday’s retail sales release. August was another month of poor weather. Could that have had a negative effect on clothing and footwear, but a positive on homewares/household goods? Risks could be for another poor month of retail sales, which would increase the chances of a further push lower. For both the EUR and GBP, any rallies could be snuffed out before previous support levels can be reattained, in my view. 

Last week saw the People’s Bank of China cut the reserve requirement ratio to its lowest level since 2007, the Peruvian central bank cut interest rates to 7.5% (the lowest since Dec ‘22) but the Russian central bank and the Danish central bank raised interest rates, with the latter following soon after the European Central Bank raised the refinancing rate by 25 basis points. Central banks in emerging markets are at something of a crossroads. Some are more concerned by the downturn in economic activity and others continue to worry about inflation risks. I think that the former is more of a problem for the medium term, whilst inflation risks are predominantly a temporary threat.  

For this week, there are likely to be a cut in interest rates from the Brazilian central bank, but hikes from the Swedish Riksbank, Swiss National Bank, Norges Bank and the Turkish central bank. For the Swedish, Swiss and Norwegian central banks, this is likely to signal the end, or the beginning of the end of their tightening cycles, as the economic situation continues to worsen. I think there is a risk that emerging market currencies come under pressure as we enter the end of this quarter and the final stretch into year end.

1. ZEW: Zentrum für Europäische Wirtschaftsforschung
   
2. OPEC: Organization of the Petroleum Exporting Countries