FX finds its footing as inflation looms

Market overview

FX markets enter the new week with rate expectations firmly back in control after a softer US labour report prompted investors to reassess the path for global monetary policy. Lower Treasury yields and reduced expectations for further Federal Reserve tightening have taken some support away from the dollar, allowing both sterling and the euro to recover, although neither move yet looks strongly driven by domestic fundamentals. The wider picture remains one of selective dollar weakness rather than a decisive shift in currency trends, with investors reluctant to extend positions before a busy run of inflation and growth data. US CPI is now the key near-term catalyst, while UK GDP and evolving rate differentials should help determine whether recent moves develop into broader FX trends or remain short-lived corrections.

USD: Jobs data shifts the focus to inflation

July’s US employment report pointed to a softer hiring environment, with payrolls falling by 23,000 and previous months revised lower by a combined 103,000. The signal was complicated by unemployment falling to 4.1%, largely reflecting another decline in labour force participation rather than an outright improvement in employment conditions.

Markets nevertheless focused on the weaker payroll trend. Treasury yields moved lower, equities strengthened and the dollar came under pressure as investors reduced expectations for further near-term Fed tightening.

For policymakers, the report creates room to wait rather than demanding an immediate change in direction. Attention now turns firmly to inflation. A softer CPI reading would reinforce the recent decline in rate expectations and could leave the dollar vulnerable to further selling. A stronger core print would challenge that repricing and revive the case for tighter policy.

GBP: Sterling steadies ahead of UK growth data

Sterling begins the week on firmer ground, with GBP/USD recovering above 1.35 after Friday’s US jobs data weakened the dollar. Cable continues to be driven predominantly by developments in US rates, leaving this week’s CPI release as the most important near-term influence on the pair.

GBP/EUR has been more subdued, consolidating around the mid-1.16s after giving back much of July’s advance. Momentum has softened, although the pullback remains relatively contained and key medium-term technical levels are still holding.

Domestic focus turns to Thursday’s UK GDP figures. Economists expect June output to contract by 0.1% month-on-month, while second-quarter growth is forecast at 0.4%, slightly above the Bank of England’s 0.3% assumption. Services are expected to remain the main source of growth, while industrial production could receive support from a rebound in oil and gas extraction.

An in-line or stronger release would support the view that the UK economy is outperforming the Bank’s assumptions, potentially lifting short-dated gilt yields and providing fresh support for sterling. A downside surprise would leave the pound more exposed after its recent loss of momentum.

EUR: Recovery depends on breaking key resistance

EUR/USD extended its recovery last week as falling US yields and a softer dollar helped the pair remain comfortably above 1.15. Eurozone data has improved at the margin, but the advance still appears to reflect changing expectations for US monetary policy more than a meaningful reassessment of the euro-area outlook.

Technically, the pair faces an important test around the 100-day moving average near 1.1570, an area that has repeatedly capped recent gains. A sustained break higher would strengthen the case for a continuation towards 1.17, while another failure could return attention to the broader June-July decline.

US CPI is likely to determine the next move. Softer inflation would validate the recent reduction in Fed tightening expectations and favour further EUR/USD upside. A firmer core reading could quickly restore support for the dollar and push the pair back towards the middle of its recent range.

Looking ahead

• US CPI: The main event for FX markets, with a softer print likely to reinforce lower Fed rate expectations and pressure the dollar.

• UK GDP: Thursday’s figures will test whether UK growth continues to outperform Bank of England assumptions.

• EUR/USD: Watch the 1.1570 area, where the 100-day moving average remains an important technical hurdle.

• GBP/USD: Direction remains closely tied to US yields and the broader dollar response to inflation data.

• GBP/EUR: The cross remains range-bound, with UK growth data offering the clearest domestic catalyst this week.