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EU inflation set to slow further bringing 2024 rate cut bets into view

Yesterday saw a broadly positive session for markets in Europe with the DAX outperforming, while the FTSE100 slipped back for the third day in succession, in a month which has seen the UK benchmark underperform significantly compared to the rest of its peers.

The DAX and S&P500 look set post their best month of gains since November last year as investors start to price in the prospect of rate cuts next year in the face of sharply slowing inflation.

While the previously hawkish Federal Reserve governor Christopher Waller signalled that the current settings of monetary policy were sufficient to slow the economy, the latest flash CPI inflation numbers from Germany and Spain that were released yesterday also showed that inflation in Europe is tumbling at an accelerated rate.

With markets starting to price the prospect of Fed rate cuts by May next year, it would be reasonable to ask what price ECB rate cuts given that the economic data coming out of Europe is dire in comparison to the US.

Today we get the latest flash November CPI numbers for France, Italy, and the euro area which if they follow the trend from Spain and Germany yesterday, will put the threat of any prospect of further rate hikes from the ECB even less credible than they are already.

France CPI is forecast to slow from 4.5% to 4.1%, while in Italy we can expect to see a slowdown from 1.8% to 1.1%.

Last but by no means least EU flash CPI is forecast to slow to 2.7% from 2.9%, however given the size of the downside surprises seen in the Germany and Spain numbers we could well see an even weaker reading of 2.5%. Core CPI is expected to slow to 3.9% from 4.2%.

While the markets are pushing back against the narrative of “higher for longer” as bond yields slide sharply, there is a danger as far as US markets are concerned that they are getting ahead of themselves given the resilience of the US economy.

When US October CPI numbers were released a couple of weeks ago and headline CPI slowed to 3.2%, with core prices slowing from 4.2% to 4.1%, bets on another Fed rate hike in December were pared back sharply.

What was particularly noteworthy was a similar slowdown in super core inflation which the Fed pays close attention to and could well translate into a similar slowdown in this week’s core PCE deflator numbers.

If we see a similar trend playout in today’s core PCE deflator numbers, then it will become increasingly difficult for other Fed officials to push back on the idea that rate cuts are coming in the middle part of next year.

In September PCE core deflator slowed to 3.7% its lowest level in 2 years and today’s October numbers are expected to slow further to 3.5%.

Given Wallers comments earlier this week the Fed’s next key challenge in the face of slowing inflation, will be reining in market expectations of rate cuts, and trying to shore up the “higher for longer” mantra that markets appear to have brought the curtain down on in the last couple of days.

We should also see a slowdown in personal spending from 0.7% in September to 0.2% in October, while weekly jobless claims are forecast to rise to 218k from 209k.

It’s also worth watching oil prices today as OPEC+ gets set to meet to decide whether to implement further production cuts on top of the ones already agreed. There has been widespread disagreements on quotas amongst the smaller OPEC members who are reluctant to forego the extra barrels and the revenue that goes with them.

EUR/USD – slipped back from the 1.1020 area yesterday with the next key resistance up at the 1.1060/70 area. Currently have interim support at 1.0930 and below that at the 1.0840 area.

GBP/USD – has so far been unable to push through the 61.8% retracement of the 1.3140/1.2035 down move, at 1.2720/30 area. Support currently at the 1.2590 area which is the 50% level, with further upside towards 1.3000 possible on a break above 1.2740.   

EUR/GBP – continues to track lower with another lower low as we look towards the 0.8620 level. Resistance currently back at the 0.8720 area.

USD/JPY – rebounded from the 146.65 area yesterday and squeezed back to the 147.90 level. The failure at the 149.70/80 level keeps the pressure on the downside with a return to the lows this week potentially opening a move towards 144.50.

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