Core inflation (i.e. excluding food and energy) eased more than expected to 2.5% (consensus
2.6%, Investec 2.6%) from 2.7% previously. Subtracting the most from the headline figure was transport services, largely because of the notoriously volatile air fares component. While the seasonal December rise in plane ticket fares was similar in magnitude than that recorded in 2016, its smaller weight in 2017’s CPI basket meant the contribution of air fares to headline CPI inflation was smaller in 2017 than in 2016. Also released was PPI inflation, which showed that factory gate price inflation at a higher-than expected 3.3% yoy (consensus 2.9%, Investec 3.0%) following a revised 3.1% in November. While this was driven largely by the recent recovery in oil prices, ‘core’ output price inflation also firmed to 2.5% (consensus 2.3%, Investec 2.2%) from a revised 2.3% previously in a sign that underlying inflationary pressures were more generally widespread. Additionally, input prices rose by 4.9% on the year (consensus 5.3%, Investec 4.6%) from 7.3% in November. The reaction was fairly muted with GBP trading in a 64pip range for the day against the USD and a 50pip range against the EUR.

The recent USD sell-off continued into the early Asian session with AUD, EUR and JPY the best performers, before recovering somewhat to give the dollar index a chance at rising for the first time in 6 days. Reports released in the Financial Times overnight suggest fears are growing over a possible US government shutdown this week. As it stands, Speaker Paul Ryan needs 218 out of the 239 House Republicans to vote yes on a deal to fund the government. Meanwhile the Republicans will also need the support of some Democrats in the Senate given they only hold 51 of the 100 seats. Democrats insist they won’t support it without a deal on the expiring Deferred Action for Childhood Arrivals (DACA) program that protects young “Dreamers” from deportation with many conservatives rallying against the idea of another short-term deal.

In Europe, the sharp rise in the EUR/USD exchange rate this year has prompted a number of top banking officials to comment on the move. ECB’s Francois Villeroy de Galhau’s observed that the shared European currency’s recent appreciation is a source of uncertainty, a view shared by Vice President Constancio. Speaking in an interview with La Repubblica, Contancio said “looking at fundamentals, inflation declined slightly in December” and that the ECB “see the need for a gradual adjustment of all the elements of our forward guidance if the economy continues to grow and inflation continues to move towards our goal”. He emphasised the ECB “are not changing the path of their monetary policy. EUR/USD retraced some of its gains down 0.4% to 1.2213 as traders keep a watchful eye on Euro-area CPI released at 10:00am. A disappointing figure could lead to the ECB to again identify euro strength as a cause for concern at their meeting next week. Elsewhere, Australian consumer confidence rose, coming in at 105.1 vs 103.3 previously. Home-loan approvals unexpectedly rose in November, leading AUD/USD to hit a session high of 0.7999.

The day ahead

This morning Euro-zone final CPI is released for the month of December. Expected at 1.4% (previous reading of 1.5%), traders will be keeping a close eye on any deviation from this number due to its influence on the ECB’s future monetary policy. Shortly after, Saunders speaks at the Financial Intermediary and Broker Association inaugural conference in London. Investors will be keen to learn whether yesterday’s inflation figures have had any impact on the bank's policy outlook. Finally, the Bank of Canada is widely expected to hike rates by 25bp to 1.25% today, and it is priced in. Given the market pricing of three rate hikes in Canada this year, the BoC Monetary Policy Report that will be released after today's rate decision will be closely read for indications confirming the market expectations of a further two hikes after the one expected today.

Thought of the day

The Australian Open kicked off this week in Melbourne with the two week tournament due to conclude on the 28th January. Roger Federer is the defending champion and is looking to build on his 5 wins there but he will have to overcome Rafael Nadal and Novak Djokovic if he is to succeed. Federer also won his eighth Wimbledon title last year and a win in Australia will take him to 20 Grand Slam titles in total! Two weeks may seem like a long time but in the currency markets two hours can see a big change: last Friday GBPUSD saw a gain of 1% over the afternoon. Market orders can be a great way of capitalising on sudden moves so please talk to your Investec dealer on 0800 055 6339 to find out more and put a strategy in place.