European inflation to grind higher
(Peter Rosenstreich, head of market strategy)
A big day is in store for European economic data and potentially for the single currency. Euro area preliminary Q4 GDP is expected to rise to 0.5% q/q from 0.3% q/q prior read, while the annual headline CPI estimate is expected to surge to 1.5% from 1.1% prior read. French CPI was released earlier coming in at 1.4% y/y against an expected 1.1% y/y indicating that an upside surprise in the Euro area read is probable. Overall, the Euro-area economy has clearly preserved its solid growth momentum. This improvement in the European outlook might catch many off guard as investors have been singularly focused on US President Trump's first week and the latest Brexit developments. However, as inflation grinds towards the ECB 2% target range we need to consider adjusting the central bank’s current ultra-accommodating policy. Given that the ECB has forecasted strong growth, today's read is unlikely to panic Draghi, however, higher sustainable inflation will eventually lead to tighter monetary policy. We suspect that the Trump pro-growth story and worries over the European political environment have clouded investors to the fact that Europe inflation is rising. Currently, FX markets are underpricing the risk of a sharp shift in ECB policy, quickly unwinding the USD dominant trade.
BoJ bets on Trump
(Yann Quelenn, market analyst)
The Bank of Japan has left its policy balance rate unchanged at -0.1% in line with market expectations. The Japanese central bank will continue targeting 0% on the 10-year government bond. The BoJ has clearly been in "wait and see mode" since Trump's election. Indeed, there are hopes that the new US president will spark better economic conditions which could in the end help Japan and increase inflationary pressures. Donald Trump has stated over the past week that the greenback may be too strong. This supports our view that the yen should weaken in the medium term even though it is far too early to assess the future efficiency of Trump’s policies. Inflation expectations have not changed following the meeting and it is still expected to come in at 1.5% by March 2018 - below the BoJ target of 2%. One should not forget that even if Trump is at the centre of the markets’ attention, there are also downside risks in Europe that could offset Japanese inflationary pressures. Europe's political outlook appears more and more uncertain, especially given the upcoming French and German elections which may provide plenty of surprises. The market's fear of a nationalist party win could drive investors back to safe haven, causing further yen appreciation.