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Ongoing inflation concerns dominate currency markets

GBP - British Pound

Last Friday saw the biggest single fall in the pound and the euro versus the US dollar since mid-June. The US dollar remains firmly on the front foot versus the pound, with speculation that Jerome Powell, Governor of the Federal Reserve, could begin tapering the central bank's asset purchase programme.

The pound is dominated in similar fashion by speculation around what the Bank of England will do come its rate announcement on Thursday afternoon. A number of key investment banks are expecting a rate hike this week - JPMorgan, Deutsche Bank, Morgan Stanley, and Santander. This could normally be deemed positive for the currency, but the market is watching closely for signs of what Andrew Bailey, the Bank of England chief, may do, and whether what is done will be enough to start stemming the rise in inflation.

With inflation the main talking point across the Western economies at the moment, the focus is now on what longer term impact a rise could have on the UK economy. Initially, it was thought that a rise in inflation would be transitory, but it appears this rhetoric is slowly changing. Soaring energy costs, compounded by ongoing supply chain issues have intensified in the UK. Bailey and his team have recently stated that they will be forced to act if inflation carries on in its current path.

The Office for Budget Responsibility (OBR) set out a pessimistic scenario in its budget forecast in which inflation climbs above five percent and stated that the BoE could hoist rates to 3.5 percent, which could increase the risk of a recession. If the Bank did not act in this situation, inflation could run away to as high as 8.5 percent. Again, talk of a tightening of monetary policy can be deemed positive for the pound, but the longer term impact of the decision remains in focus, and this could leave the pound under pressure for some time to come.

Key Movers

The US dollar was one of the strongest performing currencies last week, strengthening significantly against the pound and the euro on Friday. Markets are wondering if Wednesday's US Federal Reserve rate announcement will be the right time for Jerome Powell to also announce the start of tapering their asset purchase programme.

This rhetoric was supported by US Core PCE Price Index data which posted a steady print of 0.2%. This reading is the preferred gauge of inflation for the Federal Reserve and has posted solid readings over the last few months.

This week sees a plethora of data releases which could bring some volatility to the markets. German Retails Sales was released at 7am this morning, printing a significantly worse reading than expected, pouring cold water on the market's expectations that the European Central Bank may also have to act later this month to stem the tide of inflation.

Apart from the two central bank announcements on Wednesday and Thursday, US employment is also in focus, in the form of ADP on Wednesday which forms a pre-cursor to the ever important US non-farm payrolls release on Friday. A strong reading here could form the basis for the market supporting the tapering plan from the Fed.

Eurozone GDP returned to pre-pandemic levels, posting a 2.2% reading for Q3 last week. October's inflation in the Eurozone also rose to 4.1%. The market continues to monitor if it believes it is the right time for the ECB to act, and if it does, this expectation may drive the euro higher in the coming weeks.

Expected Ranges

GBP/EUR: 1.1780 - 1.1835 ▼

GBP/USD: 1.3610 - 1.3695 ▼

EUR/USD: 1.1510 - 1.1590 ▼

GBP/AUD: 1.8080 - 1.8410 ▼