Carney signals possible early rate hike

• Iraq tensions push oil prices to nine-month high
• Carney signals possible early rate hike
• MPC minutes and US FOMC meeting keep the focus on monetary policy

Iraq tensions unsettle markets... While it may be tempting for market participants to sit back and focus on the football, the unfolding turmoil in Iraq has injected a new sense of uncertainty in financial markets. There is growing concern that the unrest could spill over into a wider conflict that threatens the stability of the whole region. Brent Crude rose by over 3% over the past week to a nine-month high, while there has been early signs of a flight to safety, with equity prices and benchmark bond yields both dropping back a little. Depending on how events unfold, Iraq could trump economic developments over the coming days. That said, it is a busy week for economic news, particularly in the UK and US, where the focus is squarely on monetary policy.


UK rate fears resurface... Following BoE Governor Carney’s broadside at Thursday’s Mansion House speech - warning of the possibility that UK interest rates may have to rise “sooner than the markets currently expect” - the minutes of the June MPC meeting (Weds) will be scrutinised closely. We suspect the Governor’s hawkish comments were primarily motivated by the strength of the past week’s labour market data, which post dated the June MPC meeting. Nevertheless, we still expect the minutes to point to the growing risks to the policy outlook. We doubt, however, that any member of the Committee was sufficiently moved to vote for an immediate policy tightening this month.


UK data likely to be softer... While the MPC minutes may corroborate some of the recent bearish rate sentiment, the coming week’s UK economic data are predicted to be more benign. After the jump in April, annual CPI is forecast to drop back from 1.8% to 1.7% (with downside risks). Retail sales in May are forecast to have fallen back by close to 1% as the previous month’s Easter-related boost unwinds. Given the extent to which the front end of the sterling curve has sold off in response to the Mansion House speech, and the prospect of weaker data, we believe there is scope for sterling yields to pull back - especially if tensions in Iraq escalate.


FOMC meeting... While the coming week’s UK data and events will have significant domestic impact, from a global perspective, the main focus will be on the FOMC announcement (Weds). We do not expect any surprises, with the Fed almost certain to announce a further $10bn tapering of its asset purchases, to $35bn, leaving the programme on course to be unwound by the end of the year. Of more interest is likely to be the tone of the accompanying FOMC statement; Yellen’s comments in the post meeting press conference; and individual FOMC participants’ updated economic forecasts. With significant uncertainty surrounding the economic outlook, we expect the Fed will continue to tread carefully, with Yellen likely to emphasize that when interest rates rise, they will do so very gradually.


US data watched for Q2 rebound... Along with the FOMC announcement, there are a number of key US releases in the coming week. May industrial production (Mon.) is forecast to rise by 0.5%, boosted by a rebound in auto production. The Empire State (Mon.) and Philadelphia Fed surveys for June are also predicted to show robust improvements. But partially balanced against this, May housing starts are forecast to remain tepid. The May CPI is forecast to be little changed at 2.0% y/y.


Finally, it's a very quiet week on the continent... After the excitement generated by the ECB’s recent policy easing, the focus remains squarely on the prospects for disinflation. The final HICP figures for June (Mon.) are likely to confirm that euro area inflation was unchanged at 0.5%y/y. The German ZEW (Tues.) is expected to be a touch firmer in June.