UK inflation to fall on sterling's double-edged sword?

• UK CPI due at 09.30, 1.2% expected although we look for disappointment

• Dollar back on profit taking ahead of tomorrow's Fed minutes

• Japanese PM expected to announce delay to sales tax increase and 'snap election'

• Reserve Bank of Australia maintains language on AUD, currency remains 'overvalued'

Good morning,

Yesterday was very much a placeholder day within markets as traders waited on the juicier cuts of the economic animal later in the week. Today’s starter, however, is a crucial figure for sterling and could easily rescue the pound from its recent nadir or exacerbate the fall and break to new lows as a result.

As we highlighted yesterday, inflation has been falling here in the UK as well as elsewhere in the developed world. The past few weeks have seen a number of developed nation central banks take action to prevent against disinflation via outright rate cuts, expansion of QE or via forward guidance changes and movements in policy language. We would expect the latter to be the main weapon of the Bank of England in its fight against a slipping CPI number.

Forecasts for UK CPI look for a modest 0.1% m/m rise to edge up y/y CPI to 1.3% from October's 1.2% y/y. I am with the downside consensus on this one – the recent Shop Price Index from the British Retail Consortium showed further falls in food prices, while anyone who has filled up a car, bought clothes and/or electronic goods in the past six weeks will know that there are some discounts and bargains out there. While these moves are a positive for the retail sales figure due on Thursday, we look for the year on year inflation number to fall to 1.1% today and sterling’s downside to extend.

Dollar continues to ease back from its multi-month highs on a little bit of profit-taking. Last week’s markets allowed USD to consolidate its recent period of strength against its G10 counterparts. In fact, despite losing ground against some, the greenback finished the week higher on a trade-weighted basis. We use trade-weighted currency indices to measure the overall change in the exchange value of a currency through a weighted average of the movements in cross-exchange rates against a basket of other currencies; the weights reflect the relative importance of the other currencies - as measured by trade flows - between the relevant countries.

USD is now at its strongest level since the bankruptcy of Lehman Brothers in 2008, courtesy of its resurgence against the euro, yen, sterling and yuan. The prospects for additional USD strength are fairly balanced this week and will remain largely contingent on any additional policy noises that we can uncover as part of the latest Federal Reserve minutes. US PPI is due at 13.30 and expected at 1.3%.

Elsewhere, JPY is back in the red as speculation gains that Japanese PM Shinzo Abe will call a ‘snap’ election as soon as today. The speech could also see him postpone any additional increase in sales taxes, due next October, for an additional 18 months. Our thoughts on JPY remain the same as they have been through the whole of 2014 – it should continue lower, especially against the currencies due some policy divergence such as the USD and GBP. Abe is meeting his advisors at 9.10am GMT and we are looking for an announcement close after.

Elsewhere, the EURCHF grind lower continues with the Swiss National Bank seemingly happy to sit on the sidelines and let this one play out. The upcoming referendum on whether the SNB should keep as much as 20% of its assets in gold has exacerbated the falls in the pair – the SNB would be forced to sell euro to buy the 1,500 tonnes of gold needed over five years to hit the target. We will wait on the vote on November 30th but are pencilling in a comfortable win for the ‘No’ camp.

We have also seen the latest minutes from the Reserve Bank of Australia once again reiterate that AUD remains overvalued and that rates will remain on hold for the considerable future. AUD is up 0.15% against the USD, and flat against the pound as we open up in Europe.

Have a great day.