A change of mind for Christine Lagarde

World Markets

Last week will go down as the week when central banks finally woke up to the threat of inflation and started to move to try and contain it.

The Bank of England was the first to follow on from the hawkish Federal Reserve and raised the cost of borrowing to .5%. Indeed, almost half the Monetary Policy Committee wanted to increase it further, so if things stay as they are, the odds are on a further move upwards in March. The Bank of England’s move was fully anticipated in the markets; however, sterling initially jumped on the thoughts of the further hike next month. The move upwards, particularly against the euro, was short-lived and reversed after Christine Lagarde grudgingly acknowledged that the ECB might also have to tighten policy. The change in tone from the ECB caught the market somewhat on the hop, and traders rushed to cover their short euro positions, causing sterling and the dollar to suffer setbacks.

The week of surprises had one trick left, which was revealed on Friday afternoon when the US Labour Department announced that Non-Farm Payrolls had increased by no less than 467,000. The market had been bracing for a much lower number, possibly a negative number after the White House strongly hinted as much. Unsurprisingly the dollar regained some lost ground and has opened this somewhat steadier. It was not only busy in the money and foreign exchange markets but also in the background the world’s stock markets continued to wobble as investors reassessed their risk appetite. Despite no central bank meetings being scheduled this week, no doubt there will be plenty of their members stepping up to the microphone to explain their actions further. Finally, the trials and tribulations of Boris Johnson look set to continue, with some commentators suggesting he may face a no-confidence vote in the coming days.

The pound again confounded many in the market when it finished the week lower against the euro than it had started despite the upward move in the base rate. As we said earlier, the Bank of England is looking likely to move rates higher again in March. This would typically lead to a sterling rallying; however, buried in the footnotes to last week’s Monetary Policy Committee meeting, the Bank states that it expected inflation to drop relatively quickly from its elevated levels. Some took this as meaning that the peak of interest rates will be somewhat lower than anticipated. UK gilts are also pointing in this direction and giving signals that we may well be heading for a recession. This week is a quiet week for data, with the only meaningful release being Gross Domestic Product (GDP) on Friday. As would be expected after the hit to the economy that Omicron delivered in December, the figure is forecast to have fallen by about half a per cent. Huw Pill, the Bank of England chief economist, speaks on Tuesday as Andrew Bailey on Thursday evening. With a dearth of data due, the focus may turn to Boris Johnson’s problems and the mounting tensions with Europe over the Northern Ireland Protocol.

After its best week of the year, we will be watching to see if the euro can consolidate its gains against sterling and the greenback. After Christine Lagarde and the ECB took a hawkish turn last week, it appears the period of policy divergence between them and their peers, the Bank of England and the Fed, maybe coming to a close. The week ahead sees a relatively calm data docket, with the German Consumer Price Index on Friday being the highlight. With Germany’s understandable obsession with inflation, a high number would place further pressure on the ECB and increase the anticipation of a tightening of policy by them sooner rather than later. Christine Lagarde has another opportunity to expand on her change of heart this afternoon when she gives a speech, as do Phillip Lane and Eric De Guindos on Thursday. Politically, Italy seems to have resolved its domestic issues with Sergio Mattarella re-elected whilst President Macron takes to the centre stage in an attempt to get President Putin to back down from invading Ukraine.

At long last, after a period of denial Jerome Powell and the other governors of the Federal Reserve seem to be taking decisive action on inflation. This week focus will switch from inflation to the less thorny problem of employment with this month’s publication of Non-Farm payrolls on Friday. With Omicron still disrupting large swathes of the economy, expectations are for a low gain in employment of about 100,000. It must be remembered that there are about 10 million vacancies, and one month’s figures are unlikely to upset the chain of events to higher interest rates that Jerome Powell has started. The ISM Manufacturing Purchasing Managers Indexes are due out tomorrow, the ADP white-collar labour figures on Wednesday, the weekly jobless total, and the Markit Purchasing Managers Indexes on Thursday to digest. As usual, after a Federal Open Market Committee meeting, several governors of the Fed are expected to speak and air their views on inflation.

The Swedish krona continued to weaken throughout last week and is now once again at levels last seen in 2020 against the euro and sterling. With no important data releases scheduled for this week but for the Services PMI, the krona will once again be left to the mercy of the markets with very little to defend itself. Tensions over Ukraine are expected to be the main influencer.
With gas prices soaring, the Norwegian krone has been able to stand its ground against most other G10 currencies. This week sees no data releases that are considered significant; however, we will watch the House Price Index release to see whether last year’s two rate hikes have managed to put a dent in the booming property market