13 January 2025

GBP

Sterling fell to its lowest level against the dollar since November 2023 last week as investors' concerns over the UK inflation outlook and increasing government debt led to a selloff in the UK gilt market. The 30-year rates reached highs last seen in 1998, whilst 10-year yields rose to the highest level since 2008.

Comparisons were drawn to Truss and Kwarteng's mini-budget in 2022 as markets moved quickly to sell UK assets, leading Darren Jones, the Treasury's chief secretary, to reassure investors, saying the gilt market continues to function in an "orderly way." If the surge in yields is sustained, it could wipe out the government's dwindling £9.9 billion of fiscal headroom and pressure it to tighten fiscal policy.

The combination of slow growth and above-target inflation is pointing towards a period of stagflation for the UK, which will only reduce investor confidence. Therefore, all eyes will be on Wednesday's UK year-over-year CPI release, which forecasts expect to remain at 2.6% and Thursday's UK GDP, with the month-over-month figure expected to rise from -0.1% last month to 0.2%.

The Bank of England may have some difficult decisions to make in controlling inflation, ensuring growth isn't negatively impacted. The probability of an interest rate cut at the BoEs next meeting is currently 75%, with 44 basis points of cuts expected this year – less than two 0.25% cuts. Sterling ends the week with UK Retail Sales, expected to rise to 0.4%.

EUR

The euro hit highs since November 2024 against the pound following the UK gilt market selloff seen last week after a relatively quiet data week from the Eurozone. German Preliminary CPI released Monday gave the euro a slight uptick, coming in at 0.4% above forecasts of 0.3%.

This week again looks quiet for the euro, with ECB Monetary Policy Meeting Accounts to be released 12:30pm on Thursday, and Eurozone Final year-over-year CPI due Friday at 10am expected to remain at 2.4%. Markets are currently pricing in an interest rate cut at the ECB’s next meeting on the 6th February at 95%, which may increase if Thursday's inflation number comes in below forecasts.

USD

The dollar continued its strong start to 2025 after a hotter-than-expected jobs report reinforced market expectations that the Federal Reserve will hold interest rates, with markets currently only fully pricing in one interest rate cut for 2025 in December. Minutes of the December FOMC meeting released last week confirmed that the decision to cut interest rates 25 basis points was finally balanced.

Forecasters were expecting 165,000 new jobs to have been added in December, but the actual figure came in at 256,000, leading to some banks scaling back their forecasts for monetary easing in 2025. Following the release, GBPUSD returned to lows since November 2023 and EURUSD to lows since November 2022.

US CPI is released at 1:30pm Wednesday and the year-over-year figure is expected to rise to 2.9%. Any outcome above this could push market expectations of the next Fed interest rate cut further back and further strengthen the dollar. On Tuesday, US PPI will be released at 1:30pm, and US retail sales and unemployment claims are due on Thursday at 1:30pm.

This commentary does not constitute financial advice. All rates are sourced from Bloomberg and forecasts are taken from Forex Factory.