Financial stability risks as UK Government may back down on tax rate cut

Markets (Financial stability in focus) 

This week should show that financial stability joins inflation as a critical risk for policymakers. That means financial stability risks should significantly supplant other risks, including inflation, when markets are undermined as they were during the Gilt-led sell-off in global fixed income last week. Taming inflation requires the trouble-free functioning of the market's plumbing when tightening monetary policy. Hence central banks will be watching market liquidity gauges closely.

The RBA is the first G7 central bank to have the opportunity to react to sharply higher cross-asset volatility in a monetary policy meeting (Tuesday). Despite CPI inflation having peaked in Australia, a step-down from September's 50bp increase to 25bp is an increasing possibility (consensus: 50bp).

Forex (UK Chancellor in focus) 

UK Government, my back down on tax rate cut, is the markets initial thoughts as UK Chancellor Kwasi Kwarteng is expected to make a statement reversing the scrapping of the 45% tax cut in the next hour, according to the BBC. Indeed, this goes further than reports earlier (e.g. The Telegraph) which suggested that a vote on the measures would be delayed. GBPUSD is rallying through 1.12.

Meanwhile, USDJPY rallied above 145 for the first time since the MoF ordered intervention on September 22 during the Asia morning session. There is no material feed-through into the broad dollar. That would likely change in a quick move towards the 150-mark that could increase the possibility of renewed intervention and broad-based USD strength that has helped spark cross-asset volatility in recent weeks.

Oil (OPEC in focus) 

Oil prices have seemingly peaked and turned slightly softer after  APAC morning's early 2% gain (Brent front-month) despite encouraging reports that OPEC+ is planning a substantial cut in production at its meeting this week. According to widespread coverage of the meeting, a 1mn bpd production cut is reportedly being tabled.

The strong dollar and weak demand in China and Europe pose significant headwinds resulting in increased backwardation in term spreads since mid-August and still signalling pessimism around the global economic outlook. A tepid response in futures to a production cut would chime with the negative message that lower US inflation breakevens and industrial metal prices are sending.