USD

The dollar starts the week weaker against a basket of currencies after markets continue to bet that the Federal Reserve will ease its aggressive rate hiking cycle with threat of recession looming.

The dollar index has dropped back to the low level of 105.80 which has not been seen since 5 July. This is suggesting that US interest rate expectations may have peaked. Data at the end of last week revealed USD moved in both directions after initially rising following personal consumption expenditures on Friday showed the fastest pace of inflation since 2005. This move was short lived after the Chicago PMI report, which is a leading indicator of economic health, reiterated slipping consumer confidence and inflation expectations. This release will be closely watched by the Fed and may see the bank reign in its future rate increases as previously forecast by the market.

The focus will now switch to today’s ISM Manufacturing PMI out at 3.00pm. Traders currently price in a 31% probability that the Fed will keep to its current 75 basis points rate increases at its next meeting on 21 September, versus a 69% odds for a smaller 50 basis points rise.

GBP

The pound had a better week last week against its peers and was up against both the US dollar and the euro as it starts this week.

Rising inflation, a strong labour market and hawkish official comments have encouraged the market to expect more “forceful” action from the Bank of England. The BoE has hiked the bank rate four times this year in quarter-point increments. The swaps market discounts about a fifty percent chance of a 50 basis points move, which would bring the target to 1.75%. After this week’s meeting, the Monetary Policy Committee will formally meet three more times, during which the swaps market expects 100 basis points in rate hikes will be delivered.

There will be a new Prime Minister when the BoE meets in September which could also have a bearing on the bank’s future outlook. Rishi Sunak the ex-Chancellor raised taxes when he was in office and vigorously defends his record (though now allows for a cut in VAT). The other candidate Foreign Secretary Lizz Truss wants to reduce taxes and has talked about reviewing the BoE’s mandate. The IMF’s new forecasts see the UK posting the slowest growth among the G7 countries next year at 0.5%. However if Truss wins the Conservative leadership contest and delivers on her promises, the tax cuts could double that forecast.

Key announcements

09:30 – GBP – UK Final Manufacturing PMI – Forecast 52.2
15:00 – USD – US ISM Manufacturing PMI – Forecast 52.3