Week Ahead Diverging Central Banks to Guide Markets

The central banks of the U.S. and Japan are on different ends of the monetary policy spectrum

The U.S. Federal Reserve and the Bank of Japan (BOJ) are faced with different challenges this week. The Fed is facing moderate growth in the U.S. and the timing of its next interest rate hike will be affected by the ongoing presidential electoral campaign. The BoJ has been tasked, since Japanese Prime Minister Shinzo Abe was elected, to end decades of deflation and get the economy back on track.

The European Central Bank (ECB) held interest rates and its quantitive easing (QE) on hold as expected on Thursday, July 21. The EUR was weaker against major pairs after there was not clear signal on what the next step for the central bank is despite the anticipated negative effect of the Brexit vote on European growth by forecasters. Earlier in the week the German ZEW was a portent of things to come with a -6.8 confidence in the German economy for the next 6 months. For the full Eurozone the index was -14.7.

The Federal Open Market Committee (FOMC) statement will be released on Wednesday, July 27 at 2:00 pm EDT. There is no change expected to the Fed benchmark rate and since this monetary policy meeting is not followed by a press conference the language in the statement will be the main focus as analysts try to gleam insight from the document. The Bank of Japan (BOJ) is scheduled to announce its monetary policy statement on Thursday, July 28 at midnight EDT, followed by the outlook report at 1:00 am EDT. A rate cut deeper into negative territory is not expected but the BoJ is under pressure to act even as Shinzo Abe is coming off an election win has promised a stimulus package.

The EUR/USD lost 0.623 percent in the last week. The single currency is trading at 1.1015 in a week that included a bundle of European data and the interest rate decision from the ECB. The economic sentiment of German analysts and investors soured in the first release of the ZEW survey after the Brexit vote. The decline of German and European rating for the next six months was addressed by ECB President Mario Draghi who urged the market not to worry, as the Brexit impact cannot be fully estimated.

The decision of the ECB to hold until more data is available was anticipated given the two big QE boosts in December and March from the central bank. Although the moves are a good example of the declining influence of central banks on market behaviour. The ECB has limited options as cutting deeper into negative territory is not sustainable and could end up hurting the impact from their QE program which as it stands has a limited supply of available bonds for purchase.

 

West Texas Oil lost 5.221 percent in the last week. The price of WTI is trading at $43.57 after global growth expectations have taken a hit and inventories have not fallen by as much as forecasted for the season. U.S. inventories are at a record high for the season at 519 million barrels. Only Nigerian production is impaired on the global scale but otherwise oil producers continue to output near record high levels as demand, as evidenced by the U.S. lower than expected dropdown of inventories despite the summer driving season.

Rising Political Risk to Keep Fed on Sidelines

The U.S is not immune from political risk with the upcoming presidential elections in November. Chair Yellen said in June that markets should not be surprised by a rate increase ahead of presidential election. The whole time Mrs. Yellen made sure to impress on the audience the willingness to act by the Fed if economic activity warrants higher rates. Press conference or no. It will be easy to add that this could include a rate cut, if Brexit has indeed triggered another global recession forcing the Fed to ease once again.

Chair Yellen will not be heard from on Thursday as there will no press conference to follow the release of the FOMC statement. The Fed collectively and individually by member statements has been net positive on the U.S. economy, but worried about macro economic headwinds from abroad. The cautions tone has proven to the right one and there are few signs that the Fed will change its strategy ahead of the U.S. elections and with ongoing uncertainty on the impact of Brexit and a potential Japanese easing and government spending package.

Market events to watch this week:

Monday, July 25
4:00 am EUR German Ifo Business Climate
Tuesday, July 26
10:00 am USD CB Consumer Confidence
9:30 pm AUD CPI q/q
Wednesday, July 27
4:30 am GBP Prelim GDP q/q
8:30 am USD Core Durable Goods Orders m/m
10:30 am USD Crude Oil Inventories
2:00 pm USD FOMC Statement
2:00 pmUSD Federal Funds Rate
Thursday, July 28
8:30 am USD Unemployment Claims
Tentative JPY Monetary Policy Statement
Friday, July 29
1:00 am JPY BOJ Outlook Report
Tentative JPY BOJ Press Conference
8:30 am CAD GDP m/m
8:30 am USD Advance GDP q/q

*All times EDT