This week’s monetary policy decisions from the Federal Reserve on Wednesday and the BoE (Bank of England) on Thursday will dominate market focus. The decisions themselves are fairly straightforward, with both central banks expected to leave interest rates unchanged. However what is said in the statements and press conference will be more interesting and less certain.

For the Federal Reserve, the market is pricing in a 50% chance of a cut in interest rates as soon as March and more than 100% chance of a 25-basis point cut come the May meeting. Will the Fed attempt to dampen those expectations? What, if anything, will the Fed say about short-term pressures on freight costs and oil prices given the heightened geopolitical tensions between the West and Yemen?

Meanwhile, the BoE is grappling with conflicting forces of weak economic activity versus the ongoing overshoot of inflation. Both of these situations are likely to be made worse by the heightened tensions in the Middle East, but the short-term pressures on shipping costs might not be passed through the price chain as companies fear the damage it would do to consumer demand. So will we see material increases in the inflation risks at the same time as a potential worsening in the UK’s growth outlook, and could that undermine the GBP?

Last week’s attempts higher in GBPUSD were once again rebuffed by the markets, such that we could be approaching a topping pattern in this particular currency pair. Of the limiting factors for the GBP, the markets are already pricing in more rate cuts from the Fed than the BoE, the UK’s economic performance is worse, UK inflation is no longer materially above the other major economies, and the USD appears to have broken its recent losing streak versus other major currencies.

Unless there are some surprises from the central bank meetings this week, or a shock from the data and surveys, the GBP could find the going harder in terms of any renewed tests higher. Moreover, the EUR could fall further against the USD, especially if the Q4 GDP (Gross Domestic Product) figures from Euroland point to even greater underperformance versus expectations.

I think there are risks of a drop in EURUSD towards the December lows around $1.0720. The EUR’s drop last week, prompted by speculation that the ECB (European Central Bank) could cut interest rates as soon as March after ECB President Christine Lagarde refused to rule it out, has not yet been arrested by comments from other ECB members countering that opinion.  

The last week has seen no alleviation in the problems for cargo ships trying to navigate the Red Sea. Another missile strike by Houthi rebels targeted a UK linked oil tanker on its way to Singapore. Freight costs for a 40ft container box have reached nearly $4000. There are fears that this could reverse recent trends in inflation, but equally concerns are growing that demand will drop further, worsening the outlook for Asian economies as well as global growth.

The Chinese economic woes intensified at the beginning of this week after a Hong Kong court ordered the liquidation of real estate company Evergrande, after it was reported to have defaulted on $330bn of debt. I see the risks to China and the Chinese renminbi pointing to the downside, and the authorities could step up efforts to re-energise the economy, with more public spending and monetary loosening, without any success.

Renewed CNY weakness could lift the USDCNY rate back through 7.35, in my view. In terms of global growth, we are only talking about shaving a tenth of a percent or so from 2024 GDP, but that is a tenth it can ill-afford to give, in my opinion.

This week sees likely monetary policy loosening from the central banks of Hungary, Colombia, Chile and Brazil. The Hungarian central bank is expected to reduce borrowing rates by at least 1 percentage point, and given the recent news of mounting tensions with the EU over Hungary’s refusal to support additional aid for Ukraine, the Hungarian economy might need this. The risk is that the forint might slip if there is too large a cut in official interest rates, but EURHUF is closing in on a 4-month high, which could increase imported inflation pressures on the economy. The Colombian central bank is expected to cut interest rates 50 basis points, the Bank of Chile 100 basis points and the Banco Central do Brasil 50 basis points.

Developing nations’ central banks raised rates ahead of the major western central banks, and it would seem they are cutting interest rates well ahead of them too.