The market continues to process the recent actions of central banks and the predicted trajectory of interest rates in the near future. The consensus among analysts is that the Bank of England will increase rates by a modest 0.25% next month, although some believe that last week's split vote signals that we have already reached the peak.

As the emphasis shifts from inflation control to supporting the economy and avoiding a potential recession, the market predicts a 0.25% decrease in rates later this year. The latest UK growth data showed a contraction of 0.5% in December and no growth in the last quarter. The upcoming jobs data and inflation report, as well as the retail sales figures, will play a crucial role in shaping central bank policy.

The Federal Reserve is expected to continue raising rates, albeit at a slower pace, as they approach the peak. The Fed's decisions will have a significant impact on global asset markets, and their stance remains bullish. Meanwhile, the European Central Bank is taking a more aggressive approach to monetary policy, with a 0.50% increase predicted in March, which is boosting the Euro.

Volatility on the markets remains elevated, with investors lacking confidence in the face of uncertainty. The GBP/USD exchange rate has encountered resistance at 1.2500 and has support below 1.2000, ahead of the significant 1.1750 level. The GBP/EUR exchange rate has found stability, with key levels to watch ranging from 1.1000 to 1.1550.

GBP/EUR suffered last week on the back of the possibility of a widening differential in interest rates between the Bank of England (BoE) and the European Central Bank (ECB). This could lead to Sterling being priced well below 1.12 this week, potentially even below 1.11. Sterling started the week at low levels after declining for the previous five days, with the largest losses seen following policy announcements from the BoE and ECB.

BoE Governor Andrew Bailey stated in a press conference that while they have seen improvement, there are still significant risks to the economy. If these risks materialize and there are further overshoots in wage and service inflation data, the BoE will need to respond with further rate hikes.

With this in mind, the BoE raised the Bank Rate to 4% last week but did not commit to further increases in the future, recognizing the risk of higher borrowing costs. The ECB, on the other hand, confirmed that interest rates will rise further in March and in the months following.

The conflicting policy outlooks are putting pressure on GBP/EUR, which may remain suppressed this week with members of the BoE Monetary Policy Committee speaking ahead of Friday's GDP data. If the GDP data comes in weaker than expected and confirms a UK recession, this could lead to a revision of expectations for Bank Rate. The possibility of a recession is still uncertain as economists predict 0% growth in the last quarter due to an expected -0.3% reading for December GDP.

UK data this week shows a weakening economy, with worsening consumer and business sentiment due to rising taxes, high prices, and recession risk. Record gov't borrowing exacerbates the challenges ahead.

The Bank of England is still expected to raise interest rates by 0.5% to 4.0% next week, but another split vote is likely. The rate peak forecast has dropped to 4.35%, with a potential rate cut priced in for late 2023. The central bank must balance high inflation, a tight job market, and a weakening economy.

The US central bank is expected to raise rates next week, but with a smaller hike of 0.25%. The market predicts a peak rate of 4.90% in Q2 2023 as inflation continues to drop.

ECB officials remain hawkish and are expected to keep raising rates in 0.50% increments to curb inflation.

Next week will likely see extreme volatility across assets due to central bank meetings, followed by the crucial US jobs data on Friday.

Dollar weakness is the main theme on the expected Fed slowdown and positive risk environment. GBP/USD is near 7-month highs but capped at 1.2500, while GBP/EUR stays in the range of 1.1250-1.1550.

UK data this week has been relatively encouraging, with inflation dropping slightly to 10.5%, raising hopes that we are past the peak. Robust jobs market numbers, with unemployment remaining at 3.7%, although average earnings, despite pushing up to a stronger than expected 6.4%, further highlight the squeeze on disposable income.

The UK housing market continues to cool, as the cost of living and higher interest rates further weigh on demand.

This increases pressure on the Bank of England ahead of their meeting on February 2nd, with most analysts now expecting a further 0.50% rate increase with inflation still far too high, despite the growing recessionary risks.

China growth data has been stronger than expected as they further reopen the economy, which is adding to a general risk-on environment. Relations with the US also appear to be moving in a more positive direction.

The US central bank may slow its tightening policy to 0.25% incremental hikes from next month as inflation cools, whilst the ECB look set for another 0.50% increase.

On the exchanges, dollar weakness continues to drive sentiment on the generally more positive risk environment. GBP/USD remains near its 7-month highs but continues to be capped at the significant 1.2500 barrier, whilst GBP/EUR remains within the well-established range of 1.1250-1.1550.