The mighty dollar slid in early European trading, pushing the pound to its highest level in three years, and the 18-member single currency to its strongest print in two months. The catalyst was a stronger-than-expected U.K. service data print, coupled with similar pockets of results across the eurozone, all supplementing a positive retail sales print (+0.3%). The rising EUR only adds to the dilemma for the European Central Bank (ECB) when it announces its policy rate decision on Thursday. For the Bank of England (BoE), some hawks may take flight.
The U.K.’s latest upbeat survey points to a buoyant economy (the service sector accounts for +75% of the British economy) and is likely to put pressure on the BoE’s policymakers. This morning’s U.K. service purchasing managers’ index (PMI) surprised to the upside — April’s 58.7 headline is better than the March print of 57.6 – confirming the fastest pace so far this year, while jobs growth across the private sector also surged. When combined with last week’s manufacturing and construction PMIs, it should help to keep alive expectations that growth during the second quarter could come in close to +1%. The strength of the PMIs’ output and employment readings would suggest that the discussion among policymakers about when interest rates will need to start rising will heat up, especially when one throws in the recent house price gains.
Bullish Data Inflates Euro
The data will support BoE Governor Mark Carney’s optimism for the U.K. economy. It could also bring one or two policy hawks to the fore at this week’s Monetary Policy Committee (MPC) meeting. To date, they have been silenced by the unemployment rate-based forward guidance, but with the unemployment rate now below +7%, the “newly refined and qualitative-based forward guidance comes into operation allowing the hawks to express their views.” The possibility that the BoE’s MPC might actually discuss raising rates is aiding GBP. No one expects the BoE to do anything this week, however the possibility of dissent causes ripples that eventually become waves. Cable has so far managed to scale a fresh 57-month high (£1.6954), allowing the £1.7000 psychological level to remain unlocked for an eventual test. Also aiding the technical analysts’ viewpoint is the upper Bollinger bands that are again pointing higher — sterling pullbacks have been limited.
The EUR too is being driven higher by upbeat data, especially from the weaker members. So far, the single currency is straddling its two-month high (€1.3928). All of this only adds new complications to the ECB’s policy meet this week. Activity in Spain’s service sector grew at the strongest pace since before the global debt crisis (April’s PMI 56.5 versus 54 in March), and even the Italian PMI revealed a marked improvement (51.1 from 49.5). For the eurozone, the composite PMI (services and manufacturing) delivered a reading of 54 in line with expectations and also a 35-month high. These are all good numbers, allowing the market to push the single currency to breach the psychological €1.3900 handle.
The good, however, does provide a problem for ECB President Mario Draghi and company. Inflation in the eurozone has fallen well below the ECB’s target level, pulled lower in part by the stronger EUR, and the rebound so far has been mild. This alone sets the scene for further easing measures (interest rate cuts or quantitative easing), but this morning’s PMIs would suggest that a broader economic recovery remains in play. The ECB cannot afford to jump the gun and react. Doing so could potentially cut off any growth traction that is currently unfolding. The market consensus is that the ECB will not take any action this week. In fact, the fixed-income traders have pegged the Bank’s June meeting for when Draghi will take action. Overall, some further gains are possible for the EUR, but they are likely to remain limited until investors get guidance from the ECB.
Yellen Testimony Will Shift Markets
The dollar is having a tough go of it, despite solid prints from the Institute for Supply Management data (55.2) yesterday and stronger employment last week (unemployment, 6.3%). The Federal Reserve’s forward guidance is keeping a lid on rate-hike expectations. This is allowing the dollar to be treated with “benign neglect” – the buck sells off even with better U.S.-centric data. The flipside is allowing risky assets and higher yielding currencies to perform better. The market continues to look to the Fed for guidance – tomorrow Janet Yellen testifies before the Congress Joint Economic Committee on monetary policy and the U.S. economic outlook, and then before the Senate Budget Committee on Thursday. The Fed’s chief may be forced to clarify her thoughts on the economy since dodging previous opportunities to do so.
EUR Shows Signs Of Strength
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