FOMC signals tapering of QE programme on the cards

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The dollar bounced back against its major peers on Wednesday evening following the release of the minutes from the Federal Reserve’s April meeting.

ccording to the minutes, FOMC members had given greater consideration to tapering its asset purchase programme last month than investors had originally anticipated. Several policymakers noted that a discussion would need to be had ‘at some point’ to reduce the pace of purchases under its QE programme, should the US economy continue to make rapid progress towards the Fed’s goals. This is a much more hawkish appraisal than we have seen from Fed members in recent weeks, almost all of which have stated that the Fed would overlook spikes in US inflation and keep policy accommodative for the foreseeable future.

The move higher in the dollar off the back of the minutes was, however, largely contained and the currency has actually given back some of its advances at the time of writing. Since the meeting, data out of the US economy has been rather mixed, with strong inflation offset by last month’s underwhelming nonfarm payrolls report and retail sales figures. US data out earlier this week also fell short of expectations, with a drop in building permits and housing starts, the latter down 9.5% in April. The combination of weak jobs growth, stalling consumer spending and a slowdown in housing activity are not a conducive environment for an unwinding in stimulus measures, so investors are quite rightly not getting too carried away with the Fed’s minutes, particularly given its datedness.

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Pound retraces gains, despite jump in UK inflation

Sterling has traded broadly weaker in the past 24 hours or so, retracing gains from earlier in the week versus the dollar. The UK currency didn’t receive any support from Wednesday’s inflation data, which showed that consumer price growth more than doubled in April. The headline rate of inflation jumped to 1.5% year-on-year from 0.7%, its fastest pace since March 2020. Much like the Federal Reserve, the Bank of England has stated that it will look through above target inflation in the coming months, which it believes will be transitory. UK inflation is expected to rise to 2.5% this year, before retreating back to 2% next year. As long as the BoE sees this move higher in prices as temporary, there seems little chance of higher rates in the UK until deep in 2022 at the earliest.

A slightly different inflation story in the Euro Area has not hampered the euro too much, which remains well supported around the 1.22 level versus the dollar and the 0.86 mark versus the pound. The Eurozone’s core measure of price growth, the one most closely followed by the European Central Bank, fell back to 0.7% year-on-year in April, below the 0.8% consensus. Given the tight virus restrictions and relative inactivity in the bloc last month, this is not a total surprise, although we expect this to begin trending higher in the coming months as the economy is reopened to a greater extent. We think that inflation dynamics will be among the most important drivers of currencies in the medium-term, so expect upcoming CPI prints out of the major nations to take on added importance in the coming weeks.

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