Downside risks persist as major support comes under pressure

  • GBP/USD tests major support and remains vulnerable
  • After Fed Support for USD, Economic Concerns Weigh on GBP
  • US PCE data in focus as Fed-BoE divergence weighs

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The exchange rate between the pound and the dollar entered the new week testing a major support level on the charts and with only limited prospects for recovery after a long series of losses, while further declines remain a possibility in increasingly aggressive monetary policy by the Federal Reserve (Fed). .

The pound stumbled early on last week but fell sharply on Friday when the dollar was lifted almost across the board by increasingly hawkish sentiments from Federal Reserve policymakers and a rug was pulled under the pound following a disastrous set of UK economic figures.

The dollar rose almost everywhere after Fed Chairman Jerome Powell effectively endorsed the market’s recent bet that the bank is likely to go ahead with a bigger than usual increase of 50 basis points the federal funds rate at its next meeting in May.

“It should be noted that this week has seen the EUR and CNH weaken against the USD, as the two dollar pairs are the main anchors for the currency,” said Paul Robson, head of Europe. of the G10 FX strategy at Natwest Markets. (Set your exchange rate alert here).

“This suggests that monetary policy divergence is dominating. This is a decision that we believe needs to go further,” Robson and his colleagues said on Friday.


Above: performance of the US dollar exchange rate over selected time horizons. Source: Netdania Markets.


Dollar exchange rates broadly rose last week after President Powell’s remarks on Thursday at the International Monetary Fund (IMF) spring conference left no doubt that the bank is now focused on normalization of its monetary policy settings to the exclusion of everything else in its battle to bring down the United States. inflation.

“There’s something about the idea of ​​front-loading whatever accommodation you think is appropriate, so that’s pointing in the direction of 50 basis points on the table. We make those decisions at the meeting and we’ll take them meeting by meeting, but I’d say 50 basis points will be on the table for the May meeting,” President Powell said during the International Monetary Fund’s “Global Economy Debate.” Thursday. .

“It may be that the actual peak was in March, but we don’t know that, so we’re not going to rely on it and we’re also not going to rely on help from the healing side anymore. offer. If we get that, that would be great.,. But we’re really going to be focused on raising rates and moving quickly to more neutral levels, then tighter if appropriate,” Chairman Powell also said of the Fed’s policy outlook.

The Fed’s increasingly hawkish policy stance had already put the pound-dollar rate under pressure on Friday even before UK retail sales and PMI figures appeared to justify the Bank of England (BoE) for its recently more cautious on the outlook for UK interest rates.


Above: Pound to dollar rate shown at daily intervals with spread – or spread – between UK and US 02-year government bond yields. Click on the image for a closer inspection.


“The sharp drop in retail sales in March is the first hard evidence that households are struggling to sustain spending as their real disposable incomes fall,” said Samuel Tombs, chief UK economist at Pantheon Macroeconomics.

“The MPC will tread very carefully over the next few months. Indeed, last week’s data has surely negated the chances of a 50 basis point rate hike next month; we continue to seek a 25 basis point increase,” Tombs said during a research briefing on Friday.

The BoE has repeatedly said since February that the economic impact of the commodity-led income squeeze could reduce the extent to which interest rates still need to be raised, but markets continued to bet the rate discount rate will rise from its current level of 0.75% to over 2% by the end of the year.

“We expect the policy divergence between the BoE and the Fed to become even more apparent in the coming months. Building evidence of a sharper downturn in the UK economy will make the BoE cautious,” Lee said. Hardman, currency analyst at MUFG.


Above: Rate of the pound against the dollar at weekly intervals with Fibonacci retracements of the 2020 recovery indicating areas of medium-term technical support for the pound, and displayed alongside EUR/USD. Click on the image for a closer inspection. Click on the image for a closer inspection.


“In contrast, the Fed is now more committed to accelerating rate hikes to bring the policy rate back to its neutral estimate of around 2.50% for the rest of the year, and there is less risk of a steeper immediate downturn for the U.S. economy,” Hardman said in a Friday note.

All of this helped push the pound-dollar rate to its lowest since September 2020 and test a significant support level on the weekly charts.

The week’s highlight ahead of Thursday’s and Friday’s respective releases of first-quarter US GDP data and the March Core PCE price index, which is the Fed’s preferred measure of US inflation and a risk possible downside for the dollar this week.

Indeed, the consensus of economists foresees a second straight drop in the inflation rate month on month, which would fuel speculation of a possible peak in price pressures in the United States and could also potentially lower the dollar sails over the next few days.

“The USD remains well positioned on the Fed’s hawkish rhetoric. debate over whether the US has reached ‘peak inflation’ has captured attention,” says Jane Foley, head of currency strategy at Rabobank.