Yesterday’s Senate hearing by Powell was a non-event for expectations of imminent rate hikes. Between the reiteration that the FOMC won’t allow inflation to become “entrenched” and the reassurance that the base case scenario is still for inflation to peak in mid-2022, a market that was already pricing in three and a half hikes by the end of 2022 unsurprisingly gave greater weight to the latter message by Powell. The dollar came under pressure across the board coupled with a rally in oil sending commodity currencies higher.
Today, the focus will shift back to data, with US headline inflation that should reach 7% and the core rate likely to advance well into the 5% area in the December readings. Barring a significant upside surprise, a break above 7% is expected by the market and the immediate FX reaction may be contained. At the same time, it should allow markets to further cement expectations for three Fed hikes and leaving the door open to speculate for four in 2022.
USD/CAD broke below 1.2600 and is trading at the lowest levels since November. CAD has shown some good resilience to the unfavorable swings in risk sentiment – backed by oil prices trading again above $80$/barrel and the prospect of Bank of Canada tightening. The second notion is certainly being challenged by the recent containment measures imposed in parts of the country, but for now, markets appear to count on the fact that the Canadian economy was in a very good spot – latest jobs data being a case in point – before the Omicron hit, and that has left BoC tightening expectations supported.
The dollar’s pullback sent EUR/USD near the top of its recent range and continues to remain supported this morning. Yesterday, the Bundesbank President expressed his concerns about inflation risks and expressed the view that recent price pressures are not entirely due to temporary factors. His comments coupled with the ECB’s Governing Council policy stance clearly poses some risks to the gradual approach to policy normalization, although it still seems that the ECB will be in a wait-and-see mode for now. In the short term, most expect the euro to trade on broader market themes.
Boris Johnson is still battling with claims he attended a party at Downing Street in May 2020 while social distancing rules were in place in the UK and will face a parliament interrogation today. While arguably facing the toughest period of his tenure, markets seem very skeptical to price in any political instability in the UK for the moment, with the pound still scoring as the best performing currency of 2022. Barring any surprise shake-up in the political picture or any policy remarks by the BoE, the pound should continue to remain supported.
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