Euro on the back foot

Softer than expected Euro area inflation data weighed on the euro yesterday, with the single currency falling to an intra-day low of around $1.1360 against the dollar and breaking below the £0.86 level versus sterling for the first time in just over a year. Comments by Fed Chair Warsh – that risks to US inflation had receded somewhat in recent weeks – has provided some (modest) relief for EURUSD, which is trading at about $1.14 this morning, and has helped propel GBPUSD higher to over $1.33, while EURGBP Is trading at around £0.8560. The key economic data release today is the June employment (payrolls) report in the US. Stronger than expected data might reinforce market expectations for Fed rate hikes (there’s almost 50bps priced in by spring next year) and so support the dollar, while weaker than expected data could weigh on the currency.

In government bond markets, German 2-year yields ended the day a couple of basis points lower in response to the soft Euro area inflation data, while 10- and 30-year year yields closed marginally higher. It was a similar pattern for UK bonds with short-dated yields slightly lower but yields further out the curve a touch higher, while US yields were unchanged to slightly higher across the curve. Meanwhile, the rally in equity markets ran out of steam, with both US and European stocks ending lower having gained ground over the first couple of days of this week.

Headline inflation in the Euro area fell to 2.8% in June – below the consensus forecast of 3% – from 3.2% in May, reflecting an easing in energy price inflation, a further decline in food price inflation, and a drop in core inflation to 2.4% from 2.6% in May. The latter was due to a decline in core services inflation (to 3.2% from 3.5%), as core goods inflation was unchanged (at 0.9%). ECB rate hike expectations softened a little on the back of the data –  about 21bps is now priced in by year-end, down from around 25bps before the data.

Bank of England Governor Bailey says inflation in the UK, currently running at just under 3%, is likely to pick up a bit over the second half of this year. He acknowledged that the economy and labour market are both “softening” but said interest rate cuts, which had been expected before the war on Iran, remain “off the table”.

As well as the jobs report, other US economic data scheduled for today include the regular weekly jobless claims and factory goods orders for May. Elsewhere, unemployment data (May) are due in the Euro area.