Volatility in the forex market space has been in short supply throughout this year. If anything, it has been regionally contained by central bank policies despite the uptick in both geopolitical and economic event risks. Sustainable forex volatility will only occur with greater Group of 10 rate divergence, or in other words, varying degrees of tighter monetary policies. The plethora of overnight data is expected to give an indication of what is required by various central banks, in particular the Bank of England (BoE), the presumed major economy frontrunner for a post-recession rate hike.
Governor Mark Carney at the BoE is widely expected to be the first chief of a major bank in a developed economy to tighten monetary policy. However, similar to the Federal Reserve’s perspective, higher rates will be a function of less spare capacity in the labor markets. This morning’s U.K. data shows that there is a lack of wage pressure. Average weekly earnings, including bonuses, fell by -0.2%, year-over-year — the first negative reading in five years — even as the labor market continues to strengthen (July’s claimant count was 33.6k).
U.K. Wages Still Provide Slack
The decline in total pay will pose a challenge for the BoE’s timing for its first post-recession monetary policy tightening. A good percentage of the market has been pricing in a hike as early as this November. This morning’s BoE wage forecasts will force the market to have a rethink on rate-rise timing. As expected, U.K. policymakers would prefer to see incomes rising at a steady level before deciding whether they should change course. The BoE’s quarterly Inflation Report contains both hawkish and dovish messages; nothing new from a central bank. Carney indicated that annual inflation would stay at roughly +2% over the next two to three years as long as interest rates rise in expectations in financial markets. However, with the BoE slashing its U.K. wage growth forecast for the remainder of this year in half to +1.25% from +2.5%, it will prompt investors to push their U.K. rate hike timing further out the curve. The bank’s forecast suggests a first rate hike in early 2015 rather than a fourth-quarter move and just ahead of the Fed’s expected first hike in mid-2015.
GBP Bloodied, Battered, Bruised
Sterling has taken a battering after this morning’s U.K. reports, falling from £1.6800 to a 10-week low just ahead of £1.6700, and it is unlikely to stop there. Overall, the market has been very bullish that the BoE will be the first to spike rates. Both the European Central Bank (ECB), which is fighting deflation concerns, and the Bank of Japan’s (BoJ) sales tax growth worries, do not provide much opposition to a U.K. rate hike. However, both economies provide support for a weaker global growth scenario, a variable that obviously will trump the timing of a rate hike for Fed Chair Janet Yellen and Carney. The market will be disappointed with the BoE’s interpretation on rate timing. This will call into question long GBP positions outright and on the crosses. The pound falling through May’s low of £1.6689 opens up the way to test the 200-DMA at around £1.6645, while EUR/GBP will find a smidgen of support for the time being. Last Friday’s peak of €0.7989 threatens further technical gains to €0.8015 and €0.8030.
Japanese Growth Crumbles
The BoJ continues to wash away its worries with ‘modest’ growth lingo, but it will always embrace a weaker yen no matter how it’s achieved. Last night’s initial estimate of Japan’s second-quarter gross domestic product saw the economy contract by the biggest margin since the Tōhoku earthquake and tsunami more than three years ago. Nevertheless, the headline was not as bad as expected. Among the various components, private consumption was down by 5% — bigger than the estimated -3.7% drop — and the net exports contribution was at -1.1%. From a stronger economic standing, the government’s consumption estimate was the only positive component, rising +0.4% from +0.1% in the first quarter. No matter the headline, Japanese officials continue to talk up the economy. Economic Minister Akira Amari said the gradual “recovery trend is continuing and policy response would be flexible.” Officials did not allude to the possibility of further stimulus, attributing the weakness to the impact of April’s sales tax hike, and stating that no extra budget is needed at this point. Much like the ECB, the market will have to wait-and-see how lower rates and more credit will play out before the bank will open the liquidity tap again. The BoJ’s Governor Haruhiko Kuroda released the minutes of the bank’s mid-July meeting, stating that Japanese policymakers would examine “risks and modify policies if necessary.”
American Labor Market Strengthens
Yesterday’s U.S. June Job Openings and Labor Turnover Survey, or Jolts report, showed job openings swelled to their highest level in 10 years, more or less in line with expectations. The data indicates there are about two unemployed job seekers for each available job in the U.S. The report also saw a rise in the number of U.S. workers quitting their jobs (+2.53M versus May’s +2.49M). This indicates strength and flexibility in the American labor market. A sign that more individuals have quit gainful employment usually indicates that they are also confident in finding other work and sometime with higher pay.
Yellen has indicated the report is one of her key metrics for gauging labor demand in the U.S. economy, and investors will pay close attention to her speech for hawkish tones at the Jackson Hole Economic Symposium in late August. It is here that the market will be hoping to get a sense of the Fed’s current thought process. Fixed-income dealers in particular will be hoping to be in a position to better align their expectations on the pace of Fed rate hikes for the foreseeable future.
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