EBC Markets Briefing | Yen and pound diverge under price pressures

Traders across the globe project that tariffs and inflation will have the biggest impact on global markets in 2025 after prices were finally reined in last year, an annual survey by JPMorgan Chase showed.

When asked about the biggest challenge, volatility was the topic most mentioned by the traders as sudden fluctuations in response to news headlines around the administration’s plans.

Despite an IIMF official declaring in October that the battle against inflation was “almost won,” attendees at the World Economic Forum in Davos last month harboured open doubts.

Morgan Stanley scrapped its forecast for a Fed rate cut in March on Tuesday, with chief US economist Michael Gapen saying “on-again-off-again tariff uncertainty should raise the hurdle.”

While China shows little sign of vulnerability to a price shock for now, the rest of the world may tremble if some spiral of tariffs unfolds. Major economies are facing resurgent inflation pressures.

Eurozone inflation unexpectedly accelerated in January, while selling-price expectations rose to the highest level in almost a year for services, and the strongest in nearly two years in manufacturing.

Brazil’s central bank warned that inflation will run above its tolerance range for the next six months. Asia is also confronting the issue, though consumer prices remain under good control.

Winner

The yen touched an eight-week high on more signs of robust inflation. Japan’s households boosted consumption at the fastest pace since August 2022 due to strong wage gains led by bonuses.

Consumer spending, which accounts for more than half of the economy, had struggled to rise in recent months as overall inflation remains high with the prices of essential items like rice surging.

The BOJ raised rates last month and swap markets are already pricing in an about 75% probability of another increase as soon as July. The yen received a further boost on Thursday.

“The short-term interest rate should be at the 1% level by the second half of fiscal 2025,” said a hawkish board member Naoki Tamura, expecting inflation target to be reached by the second half of fiscal 2025.

Japan’s economy is heading for a third quarter of consecutive growth in Q4, a Reuters poll showed, as strong business investment outweighed anaemic consumption.

If the country’s inflation is further underpinned by Trump’s impacts on the global economy, policymakers will be left with no option but to push ahead with monetary tightening for domestic demand recovery.

The yen has been back in favour as market participants in long dollar trades thin fast. Nomura International noted that situation was a very similar pattern to the events of 20 January.

Loser

The BOE cut interest rates by 25 bps and some policymakers wanted a bigger move to offset a slowdown, while saying it would be careful about further moves in the face of an expected inflation spike.

The bank also halved its 2025 growth outlook, reflecting a greater risk of stagflation. Hit by concerns about the Labour government’s policies and a potential trade war, Britain's economy has barely grown since mid-2024.

Sterling made its largest daily loss since 10 January following the meeting. It was the second-best performing G10 currency in 2024, but has fallen against most of its major peers so far.

That underlines the challenge facing chancellor Rachel Reeves and raises fresh questions about the fiscal outlook, given the importance of stronger growth to bolster tax revenue.

An acceleration in price growth will put rate-setters in a dilemma. The 10-year gilt yield has climbed to the highest levels in decades, exceeding that of Treasury and of bund.

Pictet Asset Management has slashed its pound wagers since the start of the year. RBC BlueBay Asset Management sees room to add to its already underweight stance.

Given the rates divergence caused by lower rates in the UK and tightening in Japan, sterling has room to fall toward 180 yen by the end of April, according to Nomura Holdings Inc.

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