MUFG FX Update - FJElite

The de-escalation of military tensions in the region has helped at least temporarily to ease upward pressure for energy prices, and central bank rate hike expectations ahead of the latest policy meeting for the Fed, BoE and BoJ this week. The two-year US Treasury yield has dropped back by around 7bps from last week's high, but market participants are still wary over the risk of a hawkish policy update from the Fed this week which is continuing to encourage a stronger US dollar in the near-term. The lack of clear forward guidance under Fed Chair Kevin Warsh has made it harder to assess the path for policy. We still expect the Fed to leave rates on hold this week which would give them more time to assess how inflation risks evolve over the summer. Recent soft inflation readings for June give the Fed should give them more leeway, but one can’t completely rule out the risk of a hike of Fed Chair Warsh wants to strengthen the Fed’s inflation fighting credibility amidst elevated energy prices and a persistent inflation overshoot. Even if the Fed leaves rate son hold as we expect then there are likely to be dissents from FOMC voters in favour of hikes. Dallas Fed President Lorie Logan has already stated that she favours modestly higher rates to “better balance the outlook and risks". Market participants will also be closely scrutinizing comments from Fed Chair Warsh at the press conference although his reluctance to provide forward guidance is likely to mean that the outlook for policy later this year remains unclear. The stronger US dollar in the run up to tomorrow’s meeting indicates that market participants are expecting a hawkish policy update, and is currently poised to extend its advance below important resistance levels provided by year-date-highs.