Economic Update

Central bank meetings in focus this week as inflation pressures rebuild

This week brings monetary policy decisions from the Federal Reserve, Bank of England and Bank of Japan. All three central banks face the challenge of further energy and supply chain disruption, which could place upward pressure on domestic prices and force the hand of monetary policymakers. However, the counterargument remains the likelihood of weaker economic activity across these economies, which would weigh against a sustained increase in interest rates. Moreover, the backdrop is particularly complex for the Bank of England, which must also adjust to a new Prime Minister and Chancellor, and any associated shift in fiscal policy.

None of the central banks are expected to raise interest rates, although markets are, somewhat surprisingly, assigning the highest probability of a hike to the US. If there is a case for tighter policy, I would suggest that weakness in the JPY and energy-led inflation risks in Japan present a stronger argument than those currently being made for the US or UK. Markets will also focus on any signals from policymakers, particularly the Bank of England, regarding changes to the economic outlook.

GBP and EUR recovery prospects look limited by a lack of data

In my view, the pound and euro may struggle to make significant headway against the USD this week. There is a general absence of economic data and surveys of note due for release, with the exception of Germany's July IFO survey, which has already been published. While the business climate reading improved modestly, the increase was driven primarily by a rise in expectations. That is hardly a ringing endorsement of a recovery in the Eurozone economy.

With few noteworthy releases scheduled, I think the upside for GBPUSD and EURUSD is limited to less than 0.5% this week, whereas downside risks could exceed 1% for both currencies. The only potential support may come from indirect discussions involving the US and Iran, rather than face-to-face talks, which could help bring ceasefire negotiations back on track.

I do not expect a significant breakthrough from any discussions. However, an absence of further exchanges of fire, which appears to have been the case over the weekend, could help arrest some of the risk-off sentiment that has supported the USD.

Will US Q2 GDP figures show a recovery?

Aside from the Federal Reserve meeting, the most significant US release this week will be the preliminary estimate of second-quarter GDP growth on Thursday. Annualised growth is expected to show a modest recovery, rising to 2.1% in Q2 from 1.6% in Q1.

If risks exist around that forecast, they are probably skewed to the downside, given the supply chain interruptions associated with the conflict in the Middle East. That said, some areas of US manufacturing may have benefited from increased domestic sourcing of products.

The USD remains well supported despite the pullback in yields and oil prices following an apparent easing in tensions in the Middle East. However, how long that support persists remains a legitimate question, given the wide gap that still exists between the negotiating positions of the two sides.

MXN awaits central bank decision, while Canada GDP may offer modest support

The peso remains confined to relatively tight trading ranges against the USD as markets await a central bank decision that is not due until next Thursday. There are no major economic releases scheduled this week, although Mexico has received some more positive news following confirmation from the US that cattle imports from Mexico will be permitted again within the next month. The ban had been in place for a year following an outbreak of screwworm.

Could that provide some relief for the MXN? Yes, although it may prove temporary given the ongoing risks facing the Mexican economy from disagreements surrounding the USMCA.

For the CAD, attention turns to May GDP data. I suspect the figures will show only limited additional growth following the surge recorded in March, meaning any support for the currency against the USD is likely to be modest. Even so, the CAD needs all the support it can get if it is to avoid testing fresh lows against the USD over the coming weeks, in my view.