Daily Commentary BY THE CURVE TEAM –

Inflation and Monetary Policy

15th of January, 2018

The data flow out of the US continues to impress but is doing little to support the USD at the moment. More talk in Europe about the future path of monetary policy as the head of Germany’s Bundesbank makes his thoughts clear.

Inflation data defied the weak lead from PPI earlier in the week. The headline inflation index rose 0.1% in line with expectations with the annual pace remaining at 2.1%. It was the core reading that was more interesting, rising 0.3% against the 0.2% that was expected.

The annual pace of core inflation lifted to 1.8% accordingly. While the annual rate continues to edge closer to the Fed’s 2% target level, it is the core PCE reading that is the one to really watch. It is still sitting at 1.5% but if the uptrend in CPI continues, we should see the PCE move closer to 2% over time.

The data did little to help the USD though. The dollar index which measures the USD against a basket of currencies broke lower Friday and now sits at a three year low. Much has to do with the rally in the Euro of late, which was higher again on Friday night even after dovish comments from the head of the German central bank.

A lot of talk of late in Europe has been around an expectation of a policy shift from the ECB. While many expect QE to wind up the outlook for interest rates is far from certain. Jens Weidmann, President of the Bundesbank said on Friday night that:

 “It would be particularly stressful for the banks if the long period of low interest rates were to be ended by a rapid, sharp increase in interest rates, as far as central bank rates in the euro area are concerned, however, the immediate risk of change is currently low.”

It is becoming increasingly clear that the ECB and BoJ will be walking a similar path to what we have seen from the Fed. Both have indicated a shift to their current QE programs. Both also seem reluctant to make any indication that their benchmark overnight interest rates will be changing any time soon.

It will be a big week of data locally this week with the highlights consumer sentiment and lending data on Wednesday followed by employment data on Thursday.

David Flanagan

Director - Interest Rate Markets