Inflation and the dollar continue to go up

Just one week ago, the United States published its Consumer Price Index (CPI) for October. Inflation surpassed all expectations at an exceptional 6.2% annualised rate, the highest in thirty years! Prices have gone up across the board, for virtually every good and service.  The rise has been particularly steep in real estate, food and new and used cars. Energy prices continue to grow: petrol is now worth 50% more than it was at the beginning of the year.

Soon after these figures were released, the dollar appreciated 1% against the euro, just like US short-term bonds. The inflationary wave means the prospect of several rate hikes in 2022 is becoming more and more likely. However, the members of the Fed continue to advocate restraint. Per their analysis, demand is not yet structurally superior to supply. Rather, they believe, inflation is due to temporary factors, namely the stimulus plans to jump-start the economy, which have created a temporary peak in demand, and supply chain difficulties. The Fed therefore remains cautious. It does not want to appear too hawkish: despite inflation, withdrawing monetary support too quickly could slow down the recovery and result in stagflation (low growth, high inflation). Thus, the Fed has only very recently started to reduce its asset purchases, very gradually. The CPI has also had an impact on policy, mainly through the energy component of the price increase. With OPEC countries seemingly in no hurry to increase oil supply, there are calls for the country to dip into its strategic reserves. While no decision has been taken yet, it would seem that the mere mention of it has caused a slight easing in world prices.

In the face of inflation, and supported yesterday by strong US retail sales, the dollar is therefore rising strongly and outperforming the other major currencies.  The dollar index is at a 16-month high (since July 2020) and the dollar-yen at JPY 115 is at a four-year high. It should be noted that, in Japan, GDP contracted by 0.8% in the third quarter compared to the previous one. This morning, the euro is only worth USD 1.13, whereas just before the CPI it was close to 1.16.

The Swiss franc is holding up a little better but is still down to CHF 0.9313 from 0.9130 a week ago. If we look at the Euro/Swiss franc cross rate, currently 1.0527, we can see that the single currency is continuing its fall which started when it traded at CHF 1.0932 just two months ago.  The resurgence of the COVID epidemic in Europe is weighing on the single currency. Moreover, rate hikes seem less likely than for other currencies.  The ECB President’s dovish discourse is doing the rest: although the market is anticipating a 10bp rate hike in September 2022, Christine Lagarde says it is highly unlikely that the requirements for a rate hike will be met next year.

Unlike the case for the euro, however, the rise in the dollar is not hurting the price of gold as it should. Gold’s attractiveness has been strengthened by the risk of inflation, and the reflex to retreat to safe havens is still present. Thus the precious metal is currently trading at USD 1,856 per ounce, after approaching 1,880 yesterday.

Oil prices have finally started to fall this week after OPEC released forecasts last Thursday showing lower-than-expected demand for oil this year.  The decline was due to a slowdown in demand in China and India in the third quarter.  However, the organisation maintained its demand forecasts for 2022 at a level slightly higher than before the pandemic. The potential use of US strategic reserves may also have played a role in the recent decline. Gas prices had also eased a week ago after a rather vague announcement by Gazprom to implement a plan to inject gas into underground facilities in Europe. But yesterday gas prices rose sharply again: for the third month in a row, the Russian group refused to increase flows through Ukraine, and Germany temporarily suspended approval of the Nord Stream 2 pipeline on a question of legal sovereignty.   The pipeline will cause Ukraine to lose significant revenues by bypassing the country. By not increasing the volumes transiting through Ukraine, Russia is putting pressure on Europe to complete the project. At the same time, the Chinese partner is seeing its flows increase.

In other news, a virtual meeting between the Chinese and American presidents was held yesterday. From the images, the beginning of the conversation seemed to demonstrate a willingness to appease, but the content of the statements shows that neither party gave an inch on the main points of contention. Joe Biden criticised economic and trade practices deemed unfair and warned about respect for human rights, while Xi Jinping said that working towards Taiwanese independence was like playing with fire.  In China, the latest figures exceeded expectations with October retail sales up 4.9% year-on-year and industrial production slightly better than expected. However, sentiment remains negative with tensions in the property sector and the capital market. In the US, the debt ceiling could be reached again on 15 December, as the temporary increase in October expires. Once again, Joe Biden will have to negotiate hard with the Republican opposition to avoid a disaster.