EM Tightening & Inflation Perspective

As the focus broadens on inflation in the developmed markets space, some EM natios are already tightening. Rate decisions from the central banks of the UK and Mexico highlighted the ongoing debate on inflation risks. GBP lagged in G10 FX but the big mover was MXN, which benefited from a surprise rate hike. All currencies are higher against the US dollar, except for GBP. Kiwi and CHF are in the lead. The week concludes with top-tier US data, including the PCE report and consumer sentiment (more on core PCE below).  

The BoE pushed back on speculation that higher inflation will lead to rate hikes in their rate decision. Rates were held unchanged as expected but the central bank also warned against “premature tightening” in a sign that they're in no rush to hike. The line and Andy Haldane's departing comments underscore the difference of opinion on how transitory inflation will be.

Mexico's central bank also entered the debate with an unexpected decision to raise rates to 4.25% from 4.00%. There was speculation they could hint at a future hikes, but the move remained a surprise, leading to a sharp jump in the peso. At the same time, the Banxico itself said risks were now balanced in a sign they see this as more of an insurance move than the start of a cycle.

All attention in the months ahead will be on the developments in inflation. This includes today's release of May US PCE report. The consensus is for headline inflation at 3.9% (from 3.6%) and core at 3.4% (from 3.1%). Upward surprises in CPI have failed to sustain rallies in the dollar with the market mostly siding on the 'transitory' debate but if numbers continue to beat, that will change.

The consumer will also be in focus with spending forecast up 0.4% in the PCE report. That will be followed by the UMich final sentiment report for June. The consensus is 86.5. One Fed speaker to watch will be Mester, who generally aligns with the FOMC leaders.