Global markets experienced significant declines on Friday amidst growing geopolitical tensions, particularly concerns regarding a potential Iranian strike on Israel over the weekend.  However, market anxiety eased on Monday following Iran's weekend assault, largely thwarted by Israeli air defences, viewed as a retaliatory measure for an earlier suspected Israeli strike on Syria.  Iran labelled the attack a "success," leading observers to speculate that direct hostilities between Israel and Iran could temporarily subside.

Nevertheless, global markets still face substantial challenges in the upcoming week.  The previous week's higher-than-anticipated US inflation figures prompted a reassessment of expectations for US interest rate cuts, driving the USD to nearly six-month highs.  Conversely, a decrease in European inflation has prompted the European Central Bank to consider rate cuts, possibly as early as June, resulting in a sharp decline in the EUR's value last week.

Looking forward to this week.  The release of US retail sales data will provide insight into the strength of the US economy.  Additionally, the industrial production and Philadelphia Federal Reserve index releases will be closely monitored for further indications of US economic performance.

Data on employment and retail sales from the UK, Germany's ZEW survey, and Australia's employment figures will offer insights into the global economy's health, with investors keenly analysing these releases for signs of economic momentum or potential challenges.

The data focus of the week's foreign exchange markets will be Wednesday's crucial inflation releases from the UK.  A deviation from expectations could significantly impact the value of GBP, with any shortfall compared to consensus forecasts likely exerting downward pressure.

Conversely, an inflation reading exceeding consensus (where consensus stands at 2.9% year-on-year) would likely bolster GBP, potentially altering expectations for the timing of the first interest rate cut from June to August, positioning the Bank of England differently from the ECB regarding the initiation of rate cuts.

As expected, the European Central Bank (ECB) maintained its key policy rates at record highs in yesterday's rate decision.  However, it delivered its most unequivocal indication yet of its readiness to initiate rate cuts in the near future. Consequently, the euro depreciated to $1.07, marking its lowest point in approximately two months.  Meanwhile, the yield on the 10-year German Bund remained steady at 2.45%, maintaining its proximity to its highest level in over four months, bolstered by developments in the US Treasury market.

The USD continued its upward trajectory against various currencies over the last 24 hours, fuelled by worries over ongoing inflationary pressures in the US, exacerbated by a rise in producer prices.  This surge propelled the dollar index to reach a new six-month peak, mirroring the ascent of US Treasury yields.  Speculation about Federal Reserve rate cuts has dwindled, while global risk sentiment has been shaken, reflected in US stock indices facing their first two-week downturn since October 2023.

Despite the UK economy slipping into a technical recession at the close of last year, investors have found encouragement in recent positive business surveys, suggesting the downturn may be brief.  Indeed, UK GDP for February posted a 0.1% month-on-month increase, aligning with market expectations but at a slower pace compared to the previous month.  The primary boost came from production, which surged by 1.1%, rebounding from a 0.3% decline in January. Conversely, construction contracted by 1.9%, following a 1.1% expansion.  Looking at the three-month period ending in February, British GDP expanded by 0.2%.

GBP has maintained a relatively positive stance compared to its counterparts, showing a 1.4% increase against the EUR since the beginning of the year.  This can be attributed in part to the anticipation that the ECB will implement more rate cuts than the Bank of England.  However, the currency pair has exhibited minimal volatility and momentum in either direction, remaining confined within a narrow 1.2% range over the past three months . Policy and growth differentials continue to be crucial factors, and we are closely monitoring the data for any insights.

US stocks plunged, bond yields soared, and the USD surged to its highest point since November following a third consecutive month of unexpectedly high inflation in the US.  In March, headline inflation reached 3.5% annually, surpassing the forecast of 3.4%, while the core reading came in at 3.8%, compared to an expected 3.7%.  As a result of this news, market sentiment swiftly abandoned hopes for a rate cut in June. Prior to the CPI announcement, the likelihood of a cut was estimated at around 60%, but it plummeted to just over 20% afterward.

The USD/JPY pair surged by 0.9% in Asia, marking fresh 34-year highs and highlighting the strength of the USSD in the region.  This puts the spotlight on 155.75, though attaining it may be challenging, especially in the short run.  The Bank of Japan has shifted away from nearly a decade of unconventional loose policies but continues to maintain an accommodative stance.  Despite this, the struggling Yen has seen little improvement, particularly as the Federal Reserve appears hesitant to loosen its monetary restraints.  However, with the BoJ raising rates last month and potentially planning another hike within the year, while the Fed is anticipated to decrease rates, the contrast in monetary policies between the two central banks remains significant.

The European Central Bank (ECB) takes centre stage today following the decisions of two significant central banks to maintain their rates over the past 24 hours.  Yesterday, the Reserve Bank of New Zealand kept its rates unchanged at 5.50% and showed no inclination toward considering rate cuts in the near future. Initially, the NZD strengthened after the announcement but later aligned with most markets following the US CPI figures.  Also, the Bank of Canada similarly opted to hold rates steady at 5.00% and indicated a need for further evidence before considering rate cuts.

Today's ECB decision holds particular importance, as markets currently view the ECB as the major central bank most likely to implement substantial rate cuts over the next 12 months.  Any confirmation tonight that the ECB is contemplating rate cuts could prompt a rapid decline in the value of the EUR.

On Tuesday, the downward trend of the US Dollar (USD) persisted, marking its fifth decline in six trading days, just ahead of the crucial US inflation report scheduled for today.

The March inflation figures hold significant sway over expectations concerning a potential Federal Reserve rate cut in June.  A robust inflation figure might squash hopes for a June rate cut, whereas a figure in line with or below forecasts could sustain these hopes.  According to Reuters, analysts anticipate a rise in annual headline inflation from 3.2% to 3.4%, while core inflation is projected to dip from 3.8% to 3.7%.

Despite ongoing concerns in financial markets about monthly fluctuations in US inflation, the data reveals that headline inflation has hovered around 3.5% for nearly a year, with core inflation remaining close to 4.0% for over six months. Both figures mark a considerable decrease from the highs observed in 2022, when headline inflation peaked at 9.1% in June and core inflation hit 6.6% in September.  Looking ahead, there are indications that US inflation may eventually trend downward, particularly as the more persistent components of inflation, excluding shelter costs, are showing a decline. Nevertheless, elevated housing expenses, particularly rent, remain a significant risk factor.

The Australian Dollar (AUD) and New Zealand Dollars (NZD) led in gains, with both currencies climbing by 0.4% prior to today's Reserve Bank of New Zealand decision scheduled for 2:00 pm NZST.  Similar to its stance in late February, the Reserve Bank of New Zealand appears poised to offer cautiously balanced guidance and maintain an unchanged cash rate of 5.50%.

Since their previous meeting, there have been declines in food and dairy prices, a more significant contraction in GDP than expected, and a generally dovish tone from other major central banks. However, the NZD has also depreciated, while oil prices have risen. Overall, we perceive the risks to be relatively evenly distributed, although we do not foresee a substantial shift in policy stance at this juncture.

Before seriously considering arguments for rate cuts, it's likely that the RBNZ board will want to assess the Q1 CPI, expected on April 17th, revised staff estimates on May 22nd, and the upcoming budget announcement on May 30th.  We anticipate the first 25 basis point rate cut to occur in August, with a total of 75 basis points of easing anticipated throughout the year. Consequently, there may be limited upside for the NZD/USD pair in the medium term.