The European Central Bank (ECB) is hopeful that Italy's lower-than-expected inflation in June signals a similar trend in Germany and France later this week.

According to Istat, Italian inflation dropped significantly in June, recording a 0% month-on-month figure compared to 0.3% in May. The year-on-year inflation rate reached 6.4%, well below the consensus expectation of 6.8% and May's 7.6%.

While the Euro's reaction was limited, Thursday's inflation data will play a crucial role in providing updated information to the ECB. It will help determine whether the bank's "hawkish" stance on interest rates is justified at this late stage of the hiking cycle.

The most significant event will be the release of inflation data from Germany's North Rhine-Westphalia region at 06:30 BST. This data typically sets the tone for Europe's largest economy, and state data for Germany will follow throughout the morning, with all-German inflation figures released at 13:00 BST.

France will report its inflation numbers on Friday (07:45), followed by the unified Eurozone release at 10:00.

The decline in energy prices was the primary factor behind the unexpected drop in Italian inflation. Paolo Pizzoli, Senior Economist for Italy at ING Bank, notes that the energy component remains the key driver in the slowing pace of Italian inflation.

Italian core inflation also decreased to 5.6% in June, down from 6% in May. Pizzoli suggests that conditions are emerging for a further decline during the summer months, although he cautions against ruling out the possibility of renewed inflationary pressures in the future.

The ECB would welcome a replication of these developments in other major European economies. However, it is unlikely that any undershoot in inflation will be significant enough to deter the ECB from a July hike.

The critical question for currency markets is what will happen in September. Will inflation cool down enough by then to prompt the ECB to pause the hiking cycle?

If that turns out to be the case, the Euro may come under pressure once again. The first opportunity to test this theory will arise on Thursday with the release of Germany's inflation data.

The Bank of England made a decisive move by increasing interest rates by 0.50%, bringing the Bank rate to 5%, the highest it has been in 15 years. This decision was supported by a 7-2 split vote.

It is expected that there will be further rate hikes, and the projected peak rate by the end of the year is now estimated to be above 5.50%. This will have a significant negative impact on the growth prospects.

Inflation exceeded expectations across all measures once again. The headline inflation rate remained at 8.7%, while the core metric rose to 7.1%.

The UK economy is particularly sensitive to changes in interest rates, and the performance of the housing market has a significant influence on overall economic activity. The cost-of-living crisis further exacerbates the unique challenges faced by the economy.

In the United States, Federal Reserve Chairman Powell indicated that another rate increase next month is highly likely, pending data analysis, following a pause in rate hikes this month.

The European Central Bank continues to adopt a hawkish stance, and it is now predicted that there will be up to two additional rate hikes.

In terms of global market sentiment, the relationship between the US and China has taken a more positive turn, which bodes well.

In the foreign exchange markets, conflicting signals have resulted in a lack of clear conviction or trend. While interest rate differentials continue to be a significant driver, higher rates in the UK could put pressure on the value of the British pound as it weighs down economic growth. The GBP/USD pair remains volatile within the range of 1.2500 to 1.3000, while key levels to monitor for the GBP/EUR pair are 1.1500 to 1.1750.

The Bank of England raised interest rates by a larger-than-anticipated half a percentage point on Thursday due to substantial indications that British inflation would decline at a slower pace. The Monetary Policy Committee (MPC) of the BoE voted 7-2 in favour of increasing the main interest rate from 4.5% to 5%, the highest level since 2008 and the largest rate hike since February. This decision followed higher-than-expected inflation and wage growth since the previous MPC meeting in May.

After the announcement, BoE Governor Andrew Bailey stated, "The economy is performing better than expected, but inflation remains too high, and we need to address it. If we don't raise rates now, the situation could worsen later." Economists surveyed by Reuters had predicted a move to 4.75%, although financial markets earlier in the day had indicated a nearly 50% chance of a rise to 5% following the release of inflation data exceeding expectations on Wednesday.

Following the BoE's decision, the British pound briefly surged against the U.S. dollar, while two-year bond yields momentarily dipped below 5%. The inversion of the two-year to 10-year yield curve, often seen as a sign of an impending recession, deepened.

HSBC Asset Management's Global Chief Strategist, Joseph Little, commented that Britain is in a more challenging position compared to other major Western economies due to the cost of living crisis, labor shortages, and rapidly rising wages. Little added, "Inflation pressures in Britain show more persistence and momentum than in other western economies, forcing the Bank into a hawkish stance. Today's statement has increased concerns about a much higher terminal policy rate, potentially as high as 6%."

Leading up to Thursday's announcement, BoE policymakers had not given clear indications that a half-point rate increase was being considered. However, the MPC stated, "Recent data has shown significant positive developments suggesting that inflationary pressures are likely to persist for a longer duration. Second-round effects on domestic prices and wages, resulting from external cost shocks, are expected to take longer to unwind than they did to emerge."

MPC members Silvana Tenreyro and Swati Dhingra opposed the rate hike, as they have done with all increases this year. They argued that the full impact of previous tightening measures had yet to be felt, and forward-looking indicators pointed to substantial decreases in inflation and wage growth in the future.

High inflation in Britain also poses a challenge for Prime Minister Rishi Sunak, who pledged to halve the rate of price growth this year in an effort to regain voter support ahead of the anticipated national election in 2024. A spokesperson for Sunak expressed support for Bailey, and Finance Minister Jeremy Hunt stated that the BoE had his complete backing, emphasizing that "relentlessly tackling inflation" should be the immediate priority.

Bailey has faced criticism from some lawmakers in Sunak's Conservative Party for not acting sooner and more aggressively to address inflation.

In recent days, expectations of BoE rate tightening have surged, leading to a significant increase in the cost of new mortgages. Before Thursday's decision, financial markets anticipated that the BoE's Bank Rate would reach 6% by the end of the year, while economists surveyed by Reuters last week projected a peak of 5%.

Although Britain's economy has managed to avoid an anticipated recession thus far in 2023, it has struggled to fully recover to pre-pandemic levels, unlike most other major advanced economies. BoE forecasts from last month suggested that growth this year would be a minimal 0.25%.

The BoE's rate hike follows the European Central Bank's decision last week to raise rates by a quarter-point to 3.5%, as well as rate hikes by the Swedish and Norwegian central banks earlier on Thursday.

While Britain faces challenges in combating inflation, given its slow decline from the 41-year high of 11.1% reached last year, other central banks also see obstacles. Bundesbank President Joachim Nagel described inflation as a "very greedy beast" on Wednesday, and U.S. Federal Reserve Chair Jerome Powell stated that further rate hikes remained a reasonable expectation, despite last week's pause.

The BoE maintained its previous guidance on future policy, indicating that if there is evidence of persistent pressures, additional tightening in monetary policy will be necessary.

The central bank also noted the sharp rise in short-dated British government bond yields, which anticipate an average Bank Rate of 5.5% over the next three years.

The BoE stated that it would closely monitor the impact of higher rates on mortgage costs, as well as the rising expenses in Britain's rental market.

Official figures released on Wednesday showed that consumer price inflation remained unchanged at 8.7% in May, while underlying inflation reached its highest level since 1992.

Last month, the central bank projected that inflation would decrease to slightly over 5% by the end of this year and fall below its 2% target in early 2025.

Official figures released on Wednesday revealed that British consumer price inflation remained steady at 8.7% in May, defying expectations of a slowdown. This comes just a day before the anticipated 13th consecutive interest rate hike by the Bank of England.

Economists surveyed by Reuters had predicted that the annual CPI rate would decrease to 8.4% in May, moving further away from the 41-year high of 11.1% recorded in October.

In response to the figures, finance minister Jeremy Hunt stated, "We are committed to supporting the Bank of England in its efforts to curb inflation in our economy, while also providing targeted assistance to address the cost of living."

Following the release of the data, the British pound initially rose against the US dollar and euro, but subsequently relinquished most of its gains.

According to the Office for National Statistics (ONS), core inflation, which excludes volatile prices of food, energy, alcohol, and tobacco and is considered a reliable indicator of underlying price pressures by the Bank of England, unexpectedly increased to 7.1% from 6.8% in May, reaching its highest level since 1992.

Grant Fitzner, the chief economist at the ONS, explained that the rise in airfare costs compared to the previous year, along with higher prices for second-hand cars, live music events, and computer games, contributed to the sustained high inflation.

Among major advanced economies, British inflation has proven to be more persistent, with the highest headline CPI rate in the G7. In May, Italy recorded a rate of 8.0%, placing it second.

It is widely anticipated that the Bank of England will raise interest rates on Thursday from 4.5% to 4.75%. Prior to Wednesday's data, market expectations for the peak in BoE rates had risen as high as 6% by early 2024.

The high inflation rate in Britain also poses a challenge for Prime Minister Rishi Sunak, who has pledged to halve the pace of price growth by the end of 2023, ahead of an anticipated national election in 2024.