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EU CPI set to soften, but still a headache for the ECB

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European markets got off to a solid start to the month yesterday, after Fed officials poured cold water on some of the hawkish narratives being put out with respect to the Federal Reserve’s hiking timeline.

US markets also continued their recent resilient tone, closing higher for the third day in a row, also bolstered by the more measured tone, as the US dollar slid back for the second day in succession.

Having heard from Mary Daly of the San Francisco Fed, Kansas City’s Esther George, Raphael Bostic of the Atlanta Fed, and Patrick Harker of the Philadelphia Fed, there was a common theme, in that markets were getting ahead of themselves, and that any moves should not be disruptive in nature.

This positive trend looks set to continue today with a positive European open, as we look to the latest EU flash inflation numbers for January.

With the European Central Bank due to meet tomorrow, the pressure is growing on ECB President Christin Lagarde to adjust the central banks baseline assumption that current levels of inflation are transitory.

Given what we’ve seen from the trends in the UK and the US nothing could be further from the truth. The ECB President has insisted that there is no urgency for the ECB to adjust monetary policy given its recovery is well behind that of the US, which is a strange argument when a lot of the prevailing narrative is that the Federal Reserve is behind the curve, and may have to act harder and faster.

Having seen supply chain pressures increase further in January it wouldn’t be a surprise to see today’s flash CPI numbers, slow only modestly from December’s 5%. 

While today’s estimates for January are likely to be influenced by events a year ago which saw a big jump in the January 2021 inflation numbers, due to the reintroduction of regular VAT rates and additional climate measures which boosted German CPI by over 2%, this week’s German numbers have already shown that effect wasn’t as big as anticipated.

Expectations are for headline CPI to fall from 5% to 4.4% due to the one-off effects from last year, with core prices set to fall back from 2.6% to 2%.

While it will be convenient for the ECB to paint this as evidence of their argument that inflationary pressure is transitory and now falling, we already know from the experience of the US it is nothing of the sort.

There is also the added complication that factory gate price in inflation is even higher, and well above 20% in Germany, Italy and Spain. With markets already pricing in the prospect of two ECB rate rises this year, tomorrow’s ECB press conference will be an exercise in trying to spin a narrative that the market simply doesn’t buy. 

Just before the US open, we get to see the latest ADP payrolls report, which in December saw the US economy add 807k jobs, which was a bit of an outlier to the equivalent non-farm payrolls report a couple of days later. Today’s January report could well come in much weaker due to the disruption caused by Omicron over the Christmas and New Year period, which has seen weekly jobless claims rise sharply.

Expectations are for 184k jobs to be added, however estimates vary widely, and as a bellwether for Friday its probably not wise to set too much store by today’s number, or Friday’s for that matter, given yesterday’s comments by Patrick Harker of the Philadelphia Fed when he said that Fed officials think the US economy is already at maximum employment.

EUR/USD – continues to push higher but we need to break above 1.1280 to spark the potential for a move towards 1.1380, and delay a move towards 1.1000.  

GBP/USD – has moved up to the 1.3530 area but need to take out this area to open up a return to the 1.3630 area. Support now comes in at the 1.3450 area.

EUR/GBP – continues to find support at the 0.8305 level, which suggests the potential for a move back towards the highs at 0.8420. Below the 0.8300 area argues for a move towards 0.8270. 

USD/JPY – has pulled back from the 115.70 area and slipped back towards the 114.50 area. A break below 114.50 opens up the prospect of a retest of the recent lows at 113.80.


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