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Despite a soft CPI, the Fed is on track to taper

USD - US Dollar

Yesterday's July US CPI reading came in slightly softer than expected but price pressures broadened. So whilst equity and bond markets breathed a sigh of relief yesterday that inflation was not accelerating any further, the data does nothing to alter the view that the Fed will be having an increasingly public discussion about tapering, with an announcement possible at the 22 September meeting. Being in the twilight zone ahead of the normalization of Fed policy leaves the FX markets to look at some stark divergences worldwide which are likely to support the dollar in the medium term.

CAD - Canadian Dollar

USD/CAD was already slightly lower yesterday before the U.S. CPI print brought a wave of USD selling and this, in turn, saw the currency pair dip below 1.2500. A lower Oil price on White House comments did little to dent the positive sentiment, although we walk in the morning with USD/CAD back on a 1.25 handle. The Inflation print did little to change the narrative which is one of a firmer USD after recent upbeat data and Fed speak which has turned more hawkish. There are still concerns that the USD may continue to outperform with resistance located in the 1.2580/1.2610 area.

EUR - Euro

The US CPI release allowed EUR/USD to bounce off the range low at 1.1700/1710 - but there does not seem a case for a strong rally. There still seems interest to take advantage of the low volatility environment with carry trades - and EUR funding looks attractive. Indeed, the biggest chance for the EUR to rally over the coming months will probably come through an asset market correction. Whilst conditions stay quite benign, EUR/USD may struggle to get back above the 1.1780/1810 area now and remains vulnerable to a broader number of Fed members making the case for early (and perhaps shortened) tapering.

GBP - British Pound

2Q GDP on consensus 2Q21 GDP has been released in line with consensus at 4.8% QoQ. Growth will slow again in the third quarter, but the economy should still return to pre-pandemic levels by early next year. The data is unlikely to move the needle on the BoE story and perhaps a widening trade deficit also prevents GBP from moving too much higher.

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