The UK consumer inflation rate increased to 5.4% for December from 5.1% previously, above expectations of 5.2% and the strongest reading since March 1992.

Risk appetite deteriorated during Tuesday with further reservations over the threat of more aggressive monetary tightening by the Federal Reserve. US bond yields continued to move higher with fresh 2-year highs for the 10-year yield on Wednesday.

Wall Street equities declined sharply on interest rate fears with fresh selling in the tech sector. Asian equity markets also declined sharply on Wednesday, although selling was contained.

The dollar overall posted significant net gains on strong expectations of Fed tightening. EUR/USD retreated sharply to near 1.1320 before stabilising. Sterling was resilient with EUR/GBP near 23-month lows, but with no further buying after the inflation data.

Commodity currencies recovered from intra-day lows with some support from higher energy and metals prices.

The German ZEW economic confidence index strengthened sharply to 51.7 for January from 29.9 the previous month and well above consensus forecasts of 32.0. There was, however, a retreat in the current conditions component to -10.2 from -7.4 previously due to the current coronavirus restrictions.

The Euro was unable to make any headway following the data and edged lower amid a firm US dollar tone and existing yield spreads.

The New York Empire manufacturing index declined sharply to -0.7 for January from 31.9 previously. This was substantially below consensus forecasts of 25.0 and the first negative reading for 19 months. There was also a sharp decline in the new orders index to -5 from 27.1 in December while shipments secured only a marginal increase on the month. Employment increased at a slower pace on the month while inflation pressures eased slightly on the month, even though there were still notable inflation pressures in the data. Companies remained optimistic over the outlook while pricing pressures are expected to intensify.

The dollar failed to retreat and posted strong gains after the Wall Street open. The US currency was boosted by a further increase in yields and strong expectations that the Federal Reserve would tighten more aggressively this year. Commodity currencies lost ground and EUR/USD slid to near 1.1320 at the European close.

ECB council member Villeroy stated that the central bank would act if inflation proved more persistent. EUR/USD managed to stabilise on Wednesday to trade around 1.1330 with markets continuing to monitor yield trends amid some speculation that the Fed could raise rates by 0.50% at the March meeting.

Japanese Prime Minister Kishida stated that he wanted to impose states of emergency on several regional from January 21st which hampered risk appetite.

Treasuries were little changed following the US data releases with the 10-year yield holding around 1.83% and close to 2-year highs. There was, however, sharp selling in US equities which underpinned defensive yen demand and USD/JPY dipped to the 114.50 area.

The US NAHB housing index declined marginally to 83 from 84 the previous month, but continued to signal a robust housing sector.

US Treasuries declined later in the session with the 10-year yield at fresh 2-year highs. The dollar, however, failed to gain fresh support, especially with further defensive yen demand as equity markets continued to decline.

US futures posted further losses to 4-week lows on Wednesday and Asian equities posted sharp losses as risk appetite remained more defensive. There was further defensive yen demand with USD/JPY retreating to 114.25 while EUR/JPY dipped to below 129.50.

Sterling was undermined by more vulnerable risk conditions on Tuesday, especially with equity markets declining sharply with rate increases also priced in.

Expectations that the UK coronavirus restrictions would be released offered some protection to the UK currency during the day with some reports that Plan B restrictions could be scrapped in England from January 26th.  Markets also continued to monitor wider political developments as Prime Minister Johnson remained under pressure with reports of a concerted move by Conservative MPs to force a no-confidence vote.

The UK consumer inflation rate increased to 5.4% for December from 5.1% previously, above expectations of 5.2% and the strongest reading since March 1992. The core rate increased to 4.2% from 4.0%, maintaining pressure on the Bank of England to raise interest rates to keep inflation expectations in check.

Markets will also monitor testimony to the Treasury Select Committee from Bank of England Governor Bailey. Reaction to the data was muted with GBP/USD trading close to 1.3600 with GBP/EUR around 1.2000, although overall volatility is likely to remain elevated, especially with elevated political tensions.

Economic Calendar

07:00GBP Core CPI (Y/Y)(DEC, 2021)3.90%4.00%
07:00GBP CPI (Y/Y)(DEC, 2021)5.20%5.10%
07:00GBP CPI (M/M)(DEC, 2021)0.30%0.70%
07:00Germany CPI (M/M)(DEC, 2021)0.50%-0.20%
07:00Germany CPI (Y/Y)(DEC, 2021)5.30%5.20%
07:00Germany Harmonised CPI (M/M)(DEC, 2021)0.30%0.30%
07:00Germany Harmonised CPI (Y/Y)(DEC, 2021)5.70%6.00%
07:00GBP PPI Core Output (Y/Y)(DEC, 2021)7.9
07:00GBP PPI Output (Y/Y)(DEC, 2021)9.40%9.10%
07:00GBP PPI Input (Y/Y)(DEC, 2021)13.70%14.30%
07:00GBP PPI Input (M/M)(DEC, 2021)0.70%1.00%
08:00World Economic Forum Annual Meetings
12:00USD MBA Mortgage Applications1.40%
13:30USD Building Permits(DEC, 2021)1.712M
13:30USD Building Permits (M/M)(DEC, 2021)3.60%
13:30USD Housing Starts(DEC, 2021)1.679M
13:30USD Housing Starts (M/M)(DEC, 2021)11.80%
13:30CAD CPI (M/M)(DEC, 2021)0.20%
13:30CAD CPI (Y/Y)(DEC, 2021)4.70%
13:30Bank of Canada Core CPI (M/M)(DEC, 2021)0.00%
13:30Bank of Canada Core CPI (Y/Y)(DEC, 2021)3.60%
13:30CAD Wholesale Sales (M/M)(NOV, 2021)2.70%1.40%
14:15MPC Member Cunliffe Speaks
23:50JPY Buying Foreign Bonds617.3B
23:50JPY Buying Foreign Stocks781.1B
23:50JPY Merchandise Trade Balance Total(DEC, 2021)-784.1B-955.6B

*All rates shown are indicative of interbank rates and should only be used for indication purposes only. It is important to note that foreign exchange rates fluctuate and that rates may vary depending on the amount and the base currency that is purchased or sold. Rates are correct as of 8:00am UK time. CentralFX are not responsible for the rates shown.