Dollar strong, zloty stronger

A small surprise uptick in September’s US inflation reading bolstered the dollar, which also benefitted from a general investor aversion to risk. Despite these challenging conditions, the Polish zloty surprisingly held up quite well. After reaching a level of 4.32, the EUR/PLN pair dropped and is currently hovering below the psychological barrier of 4.30.

Key points:

• The USD is gaining on higher inflation.
• The ECB is expected to cut rates again by 25 basis points.
• In the UK, labor market data and CPI readings will be significant.

The image of a rapidly growing US economy, whose labor market remains at full employment and inflation at a low, but rising level, makes it difficult for other G10 currencies to appreciate against the dollar – last week was no exception. However, the dollar’s appreciation was rather restrained and most currencies ended the week with a change of no more than 1%, suggesting that the excellent performance of the US economy is currently fully priced in. It will be difficult for the dollar to significantly strengthen in the near term. Although the zloty was one of the best-performing currencies globally, it only experienced limited appreciation.

This week, attention will focus on Europe. The most important will be the ECB’s Thursday (17.10) meeting – it is widely expected that the bank will cut interest rates by another 25 basis points in light of the Eurozone’s stagnation. Greater uncertainty pertains to the tone of its statements, especially the extent of the central bank’s concern over the clear deterioration of leading economic indicators recently. We will also learn a range of data from the UK: labor market report for August and September (Tuesday 15.10) and September inflation data (Wednesday 16.10). Back home, Wednesday’s core inflation reading will be noteworthy.

PLN

Among emerging markets, the currencies that previously lagged behind emerged as winners last week. The Polish zloty was among them. After reaching a level of 4.32, the EUR/PLN pair dropped and is currently below the psychological barrier of 4.30. With not much news from the country in recent times, attention is focused primarily on the situation abroad.

This week won’t bring changes – the revision of inflation (Tuesday 15.10) is unlikely to cause disruption, the same going for the reading of core price dynamics (Wednesday 16.10). Inflation in Poland is still too high for decision-makers to consider interest rate cuts in the near future. This discussion should resurface towards the end of the year as we draw closer to the March meeting, where, according to signals from Chairman Adam Glapinski, a rate cut might occur.

EUR

Poor readings pertaining to the Eurozone’s economy continue to weigh on the common currency, although a recent upward revision of PMI indicators for September somewhat alleviated investor concerns. Due to the scale of connections between the economies, China’s announcement of economic support packages somewhat limited pessimism regarding European growth prospects, even though investors are skeptical about its details. The market’s attention will focus on the tone of the ECB’s statements during its October meeting (Thursday 17.10). The central bank is usually not very talkative, especially after meetings and no forecast revisions are being published. Lack of commitment to aggressive rate cuts may finally mark the end of the euro’s depreciation path.

USD

Long-term bond yields – and with them the dollar – have been steadily rising since reaching lows following the Fed’s September interest rate cut by 50 basis points. Last week’s inflation reading bolstered this trend. Its core measure was higher than expected in September, and our preferred three-month moving average rose for the third consecutive time.

However, this is not yet enough to deter the Fed from its commitment to cuts at each of the remaining meetings this year. The US economy is growing at a rate of 3%, and the labor market is at full employment – suggesting that the target level of interest rates is higher than what the markets are currently pricing in. This week, we won’t receive many data from the US, but Thursday’s (17.10) retail sales reading, which will depict the state of consumer demand, will be significant.

GBP

Over the past two weeks, the pound has given back some of the gains made this year, initially triggered by dovish commentary from Bank of England Governor Andrew Bailey. However, we believe that the prospects for the pound are still good – supported by attractive valuations, relatively high-interest rates, and a resilient economy, these should ensure that the easing of monetary policy in the UK will be gradual.

This week, numerous labor market data (Tuesday 15.10) and inflation reading (Wednesday 16.10) will be published, which will be a test for our views. Economists expect Tuesday’s reading to indicate full employment, while Wednesday’s suggests a further decline in price dynamics. However, these will remain significantly above the Bank of England’s target – both should support the pound. Investors will also be looking out for the Labour Party government’s budget announcement at the end of the month. A number of tax hikes are anticipated.

Authors: Enrique Díaz-Alvarez, Matthew Ryan, Roman Ziruk, Michał Jóźwiak – Ebury analysts