Dollar under pressure
Unpredictable US foreign and trade policy has seen the dollar come under pressure last week. The greenback has declined from under $1.16 a week ago to around $1.1850 to the euro at the start of this week. President Trump’s threats of tariffs over Greenland and then seemingly U-turn on this at Davos last week has increased volatility and, with a further spat blowing up in the past few days – threatening Canada with 100% tariffs this time over a China trade deal – then, the dollar could come under more pressure even if the Fed stays on hold this week, as is expected. Sterling has also gained on the dollar, trading at over $1.3650 this morning. Sterling gained a touch on the euro on Friday, getting back to just under 87p, where it remains this morning. There is also volatility in the Yen market where the Japanese currency depreciated towards the key level of 160Y to the dollar late last week, but has now strengthened sharply to 154Y, on foot of speculation that the Japanese government is preparing to intervene to prop up the currency if needed.
Despite the dollar weakness last week, some selloff in US debt, President Trump’s machinations and volatility in Japanese yields US 10-year yields ended the week largely unchanged from the previous week at 4.2%. In fact, there appears to be relatively little volatility in US 10-year yields to any news or economic data of late with 10-year yields between 4% and 4.3% since around last October. There was a little more action in European markets last week where 10-year German yields rose to 2.9%, up about 6bps for the week and UK yields were up 10bps to 4.5%. In Japan, yields have moved up and 10-year yields spiked higher for a time last week and at 2.2% now are double where they were a year ago. Markets speculate on what the country will do now that a ‘normal’ level of inflation has returned but the Takaichi Government is pushing fiscal stimulus despite a historic huge debt mountain to service amid sluggish economic growth.
The FOMC meets this week and will likely stay on hold at 3.5% to 3.75% as the latest economic data for the US shows – for now – consumer spending is holding up and combined with investment spending is supporting US growth in second half of last year. The labour market has weakened with limited jobs growth but the unemployment rate, at 4.4% in December, remains low and inflation – while closer to 3% than 2% – does not appear to have been massively impacted by shifting tariff policy as of yet. All in all the Fed is thought to be likely to stay on hold on foot of this data having already cut by 75bps in the second half of 2025. Speculation in the market is shifting towards who will be Chairman Powell’s successor with an announcement potentially this week and President Trump being none-too-subtle that he wants the new Fed Chair to push for sizable and immediate rate cuts.
The flash PMIs for January suggested not much of change in the pace of activity in the US and Euro Area at the start of 2026. The Eurozone composite came in at 51.5, unchanged from December with services still pointing to growth while manufacturing remains just below the 50 level indicating contraction. In the US, the reading was stronger but still unchanged at 52.8 from 52.7 in December. Here growth is more even with services and manufacturing both posting similar readings pointing to expansion though the subindices pointed to subdued new business and jobs growth. There was a surprising pick-up in the UK PMI where the composite rose to 53.9 from 51.4. This is welcome news for the UK economy heading into 2026 and comes largely on foot of better expectations in the services sector though manufacturing also improved somewhat and is pointing to stronger growth.
Looking to the week ahead, there could be plenty more Trump inspired volatility and the Fed meeting will be the main event of the week. However, we also get Euro Area confidence data as well as the early estimate of Q4 GDP growth while in the US we get durable goods for November, PPI data as well as more confidence data.