Talking Points

  • Japanese Yen: Weakens Across The Board On Risk Appetite
  • British Pound: Inflation Hits 4%, All Eyes on BoE
  • Euro: 4Q GDP Expands 0.3%
  • U.S. Dollar: Advance Retail Sales, TIC Flows on Tap

The British Pound advanced to a high of 1.6143 on Tuesday as Bank of England Governor Mervyn King held a hawkish outlook for inflation, and the near-term rally in the sterling may gather pace going into the North American trade as investors speculate the central bank to gradually normalize monetary policy later this year. The headline reading for U.K. inflation increased at an annualized pace of 4.0% in January to mark the fastest pace of growth since November 2008, while the core CPI advanced to 3.0% during the same period amid forecasts for a record 3.1% print. In Mr. King's fifth letter of explanation to Chancellor George Osborne, the central bank head wrote that the rate of inflation is likely to rise 4 to 5 percent over the coming months, but went onto say that there remains a great deal of uncertainty surrounding the outlook for price growth as the new coalition in the U.K. takes extraordinary steps to balance the budget deficit.

With the BoE scheduled to deliver its quarterly inflation report tomorrow at 10:30 GMT, the central bank may show an increased willingness to lift the benchmark interest rate off the record-low given the stickiness in price growth, and hawkish comments from U.K. policy makers could fuel anther rally in the exchange rate as investors weigh the outlook for future policy. In turn, we may see the GBP/USD continue to retrace the decline from earlier this month and make another run at 1.6300 as interest rate expectations gather pace. As the quarterly inflation report takes center stage, the market reaction to the U.K. employment report could be short-lived, and the near-term rally in the British Pound may gather pace going into the middle of the week as investors increase bets for a rate hike later this year.

The Euro fell back from an overnight high of 1.3549 as the slew of economic developments spurred a mixed outlook for future growth, and the single-currency is likely to face additional headwinds over the near-term as the region copes with an uneven recovery. Economic activity in the Euro-Zone increased 0.3% in the fourth quarter amid forecasts for a 0.4% expansion, while the growth rate for Germany, Europe's largest economy, advanced 0.4% during the same period, which missed forecasts for a 0.5% expansion in the growth rate. As the governments operating under the fixed-exchange rate system implement tough austerity measures to curb the risk for contagion, the unprecedented efforts are likely to bear down on the recovery, and the European Central Bank may look to support the real economy throughout 2011 as it aims to balance the risks for the region. However, as market participants speculate Portugal to tap the European Financial Stability Facility, we are likely to see the EUR/USD trend lower over the near-term, and the single-currency may continue to retrace the advance from earlier this year as European policy makers maintain a relaxed approach in addressing the sovereign debt crisis.

U.S. dollar price action was mixed during the overnight trade, with the USD/JPY advancing to a fresh monthly high of 83.78, but we may see the greenback benefit from the slew of event risks scheduled for Tuesday as the data is expected to reinforce an improved outlook for the world's largest economy. Retail spending is forecasted to rise another 0.5% in January after climbing 0.6% in the previous month, while demands for U.S. assets are expected to increase $40.0B in December following the $85.1B expansion in the month prior. As growth prospects gather pace, the markets may show a bullish reaction to the data, but a shift in market sentiment spark mixed reactions in the major exchange rates as risk trends continue to dictate price action in the currency market.

Will the EUR/USD Continue To Retrace The Advance From Earlier This Year? Join us in the Forum

Related Articles: Forex Weekly Trading Forecast - 02.14.2011

To discuss this report contact David Song, Currency Analyst: dsong@fxcm.com