Daily Market Pulse

Federal Reserve may be overlooking the inflation risks

5 minute read


The U.S. dollar gained momentum against a broad basket of currencies thanks to the resumption of stimulus talks, which pushed up yields and faltered its G10 peers. Expectations that the United States is moving towards another big stimulus package lifted the USD to near 2-month highs (+0.24%) on Tuesday. Meanwhile, A jump in the price component of the ISM manufacturing PMI to a 10-year high in January was another reminder yesterday that the Federal Reserve may be overlooking the inflation risks. Today, in the absence of material releases, market players will continue to trade under the influence of hopes for further fiscal stimulus to come and rising inflation expectations.


The EUR/USD pair dipped by 0.14% on Tuesday and fell to its weakest since December after U.S President Joe Biden resumed stimulus negotiations with Republicans which resulted in an upbeat attitude across financial markets and contributed to strengthening the USD. Italian politics is still fueling concerns over the political instability in the nation. Italy's search for a new government appeared to have run into roadblocks on Tuesday as coalition partners failed to settle differences over the return of Giuseppe Conte as prime minister. In general, the common currency is still showing a solid resilience as the EU economy is weakening further. The lockdowns continue and vaccine distribution has been disappointingly slow on the continent. Today, January’s flash eurozone CPI will be released and ECB Non-Monetary Policy Meeting is set to start in Frankfurt.


Cable struggled a little yesterday, closing almost unchanged (+0.07%). The Pound remains resilient as long as the UK’s impressive pace of Covid-19 vaccination looks enough to keep the pound underpinned against the U.S dollar. Nevertheless, economists call for caution for the GBP ahead of the Bank of England (BoE) policy meeting on Thursday. There is a consensus that the BoE will be fairly optimistic, however, there is still a residual risk the central bank may leave open the door for negative rates. Today, investors will digest the Services and Composite PMIs report while keeping a close eye on the vaccination’s pace.


The Japanese yen notched its fifth straight daily loss against the greenback on Tuesday. U.S President Joe Biden embarked upon stimulus negotiations with Republicans which resulted in an optimistic attitude across financial markets and put additional pressure on the JPY. As both the USD and JPY act as safe-haven currencies, the USD gains more attention around this role which is not the case for the JPY. Furthermore, the recent Service PMI data signaled a quicker decline in both business activity and new orders, with the latter contracting at the fastest pace since May. In general, there are concerns over the pandemic situation, given the introduction of stricter measures, as well as an ever-increasing uncertainty regarding the status of the Tokyo Olympic Games.


The USD/CAD rate was in retreat (-0.52%) on Tuesday as the Loonie outperformed. The CAD was the largest gainer in G10 currencies as oil prices rallied around 2.5% to touch the $55 level. If oil continues its upside move, USD/CAD may find itself under pressure. Today, the market’s attention will turn to the OPEC+ meeting, which will begin this afternoon. OPEC+ ministers will convene for a monitoring committee meeting that could provide the first signs of whether festering divisions will re-emerge when the alliance must decide how much crude oil to pump after the first quarter.


The Mexican peso extended its gains against the greenback, edging up 1.2% on Tuesday. The country's main stock index rose 3.6% and was set for the best session in two months. The MXN remained supported by higher oil prices and recent estimates that Mexico’s economy will grow 3.5% in 2021, up from the 3.4% previously estimated. On the other hand, the recent PMI report brought negative results. At 43.0 in January, the seasonally adjusted Manufacturing PMI was below the crucial 50.0 threshold for the eleventh month running, signaling another deterioration in the health of the sector. Despite rising from 42.4 in December, the latest reading was among the lowest seen in the survey history since April 2011.


The Chinese yuan recovered some lost ground against the USD on Tuesday. However, further gains were capped due to a broadly firmer dollar, after Democratic lawmakers in the U.S. Congress moved toward advancing President Joe Biden's proposed $1.9 trillion Covid-19 aid plan without Republican support. Earlier in the Asian trading session, CNY eased after the People's Bank of China (PBoC) made a large injection, which provided liquidity to the system. Analysts expect the PBoC will ease the tight liquidity situation in the next couple of weeks and interbank rates to return to more desirable levels. Today, investors will digest the Caixin Services and Composite PMIs report.


Market players reacted positively to the result of congressional elections. It is expected that important debates, such as the federal budget, the emergency bill, and administrative and tax reform will be resumed shortly. As a result, the Brazilian real crept up 1.2% against the U.S dollar on Tuesday. The Real also was supported by the last Industrial Production figures, which showed that the national industry continued to strengthen at the end of the year, leading to the recovery. The index reported annual growth of 5.6% in December after advancing 3.9% in the previous month. It is a busy day ahead, with IPC-Fipe Inflation and Markit Services PMI for January. Both are expected to drive wide interest.


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