GBP

While the Bank of England is universally expected to cut interest rates this week, the key to the reaction in the pound will be the bank’s accompanying communications. We expect the bank to revise lower both of its inflation and growth projections for 2025, with the committee likely to say that US tariffs will weigh on UK growth and dampen price pressures. Yet, with swap markets currently pricing in as many as 90 basis points of cuts during the remainder of the year, we think that it will be difficult for the BoE to meet these dovish expectations, and the MPC will likely wish to maintain optionality.

Sterling has lagged most of its major peers lately, and we think that any hint from the central bank that markets have got ahead of themselves in pricing in cuts could be a catalyst for pound outperformance. In addition to its relatively low exposure to US tariffs, the UK economy may also benefit from closer EU ties under the Labour government. We do not think these positive factors are fully priced in by currency markets.

EUR

Last week’s first quarter GDP (+0.4%) and April inflation (2.2%) data out of the Euro Area both surprised to the upside last week, muddying the waters a bit on the narrative that the deflationary impact of the tariffs clears the way for significant further ECB cuts. The terminal rate is priced by markets at 1.5%, which implicitly assumes significant further falls in core inflation from its levels currently not far from 3%. Yet, with Eurozone unemployment steady at historical lows, services inflation stubbornly high and the prospect for massive German fiscal stimulus this may be difficult to achieve.

The rest of the week looks set to be relatively quiet in the Euro Area, aside from the admittedly dated retail sales print for March on Wednesday morning. We continue to view EUR/USD as slightly overbought in the near-term, although any pullback will be very much dependent on US factors, namely the market’s view towards the tariffs.

USD

Hard economic data out of the US continues to show resilience compared to the sentiment surveys. The US payrolls surveys published last week were conducted just one week after “Liberation Day”, so they may not show the full damage just yet. However, they remained solid, showing continued moderate job creation and a steady unemployment rate just above 4%. On the other hand, the more recent, but also more volatile, jobless claims number showed an uptick, although still remained at low levels. Other numbers, such as first quarter GDP (-0.3%), are distorted by massive pre-ordering to avoid the tariffs, so the picture remains cloudy.

This week’s Federal Reserve communications will be very closely watched. There will be no updated “dot plot”, but market participants will be monitoring Powell’s comments on the recent uptick in inflation expectations and the drop in sentiment. A hawkish tone that indicated no rush to adjust policy settings would be taken as a stance of defiance against intense pressure from President Trump, and could provide the dollar with a leg up this week.