EUR/USD: Investors Focused On Eurozone Fundamentals Now

Investors shrugged off U.S. non-farm payrolls, eyes on Eurozone fundamentals now
Friday’s U.S. employment report should have brushed aside any concerns about the health of the US labor market that may have come up after the disappointing payroll number last month. The report corroborated the view that the weakness seen in the first quarter was transitory. But the EUR/USD bears shrugged off better-than-expected jobs data, which is an important buying signal.

There is little doubt that a Macron victory today will allow EUR pairs to price out any residual risk premium still associated with the uncertainty that has surrounded the French presidential election. There will still be hurdles regarding the implementation of structural reform in France, but, notwithstanding intraday volatility, currency markets should be able to increasingly focus on the better-than-expected macroeconomic landscape in the Eurozone and this is what truly matters for the EUR/USD traders.

BoE to stay on hold, but at least one member is likely to vote for a hike
On Thursday the Bank of England will simultaneously publish its May Inflation Report, the MPC policy decision and the MPC minutes (11:00 GMT). This will be followed by a press conference (11:30 GMT). We expect a comfortable majority of MPC members to vote in favor of maintaining the stance of monetary policy, but at least one member is likely to instead favor an immediate increase in the bank rate.

The main development in the last month or so is that real GDP growth slowed to just 0.3% qoq in the first quarter 2017 according to the preliminary estimate. That’s less than half the 0.7% qoq growth in the fourth quarter 2017 and materially lower than the BoE’s forecast of 0.6% qoq. The main reason behind the weakness is the slowdown in consumer services, particularly retail and accommodation, as higher inflation combined with weaker wage growth squeezes real household income growth. The first view of the expenditure breakdown won’t be released until later this month, but the other components of demand (such as net exports) are not fully offsetting a consumer spending slowdown.

The most recent business surveys, for April, suggest that some of the weakness in the first quarter may prove temporary. The PMIs even accelerated, and the CBI survey of retail sales surprisingly rose to its highest level in 19 months, perhaps inflated by mild weather and Easter. However, on balance, the BoE is likely to revise down its near-term growth forecasts a touch and, at least, the mixed data argue for caution in setting policy.
On inflation, BoE staff projections are likely to be little changed, with a small upward revision to the near term and a small downward revision at the policy-relevant 2-3 year horizon.

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Inflation held at 2.3% yoy in March, higher than the BoE’s February Report forecast of 2.1% amid growing underlying inflationary pressure from past sterling depreciation. Partly offsetting this for the near-term outlook is that oil prices have dropped since the February report. The recent appreciation of the effective sterling index, of around 1.5% since late January, will likely mean a slightly smaller overshoot of the inflation target at the 2-3 year horizon.

The mixed data on growth and higher near-term inflation than expected are likely to mean further dissent at next week’s meeting. Kristin Forbes (who leaves the MPC in June) will almost certainly continue to favor an immediate 25bp increase in the bank rate, while Michael Saunders appears close to joining her. In a recent speech, Saunders said he expected growth and inflation to be higher than consensus expectations and warned:

I do not believe the MPC is necessarily obliged to delay any policy moves until we have certainty over the exact shape of Brexit and its long-run effects on the economy.

It comes after the March MPC minutes said that, among the majority who voted to maintain the stance of monetary policy:

Some members noted that it would take relatively little further upside news on the prospects for activity or inflation for them to consider that a more immediate reduction in policy support might be warranted.

This week the Committee will temporarily be reduced to eight members as a replacement for Charlotte Hogg, who left the BoE at the end of April, has yet to be announced. In the unlikely event of a tied vote, the Governor will have the deciding vote.

Source: GrowthAces.com - your daily forex trading strategies newsletter

Written By: Growth Aces