The US dollar declines as the inflation surge loses momentum (Daily analysis 12.08.2021)

This week's inflation data are in the limelight. The latest round of readings supports the Czech koruna and the Hungarian forint positive outlook but hurts the greenback as the annual rate of inflation in the US has seemingly peaked.

Forint and the Czech koruna under the protection of central banks

Inflation in Hungary slowed down in July from 5.3 to 4.6% y/y. However, the relief is probably temporary and is a result of last summer's reopening of the economy (after the lifting of restrictions, the prices of some goods and services jumped). However, the rise in prices is unlikely to yield, and the central bank will not lose its determination to raise interest rates. Besides, even after inflation has retreated below 5%, its dynamics exceeds the short-term forecasts of the monetary authorities.

On the other hand, in the Czech Republic, data for July were much higher than market forecasts and central bank projections. What is more, for the first time in almost a year the CPI dynamics went beyond the upper deviation of the range accepted by the CNB (it reached 3.4% y/y, while the acceptable range is 1-3%). The Czech monetary authorities are not becoming indulgent to the risks of strong price growth either. After all, CEO Jiri Rusnok recently became famous by saying that he fears inflation more than the next wave of a pandemic. The CNB announced at last week's meeting that three more rate hikes can be expected this year, pushing the cost of money up to 1.5%. There have even been claims that a more radical move (than 25 bps) may be needed. The latest data are, of course, water for the mill for the faction calling for bolder tightening. As a result, in recent weeks the Czech koruna and the forint have been surrounded by a protective umbrella in the form of monetary policy, the restrictiveness of which beats even exaggerated expectations. We expect the EUR/CZK to slide towards 25.00 and the EUR/HUF to remain under 360.00.

Inflation is high but under control

In July, US consumer prices were 0.4% higher than a month earlier. Core inflation recorded a more modest jump than expected (0.3% month-on-month). The annual growth rates were 5.4 and 4.3%, respectively (compared to the June readings of 5.4 and 4.5% year-on-year). At last, prices of second-hand cars stopped rising sharply, clothing did not become more expensive, and airline tickets became cheaper. Many categories of goods and services rose at the same pace or faster than a month ago. This may mean that the peak of inflationary strength is behind us, but now price pressures will be more widespread, being seen in an increasing number of categories. It is important to separate the short-term reaction from the longer-term implications that can be found in yesterday's data. The dollar lost momentum after the data, as it was rallying hard after the latest employment report, which may have sparked confidence that inflation driven by demand and not just pandemic disorder will accelerate sharply again.

The truth is that the fate of quantitative easing is practically decided. The economy has recovered from the pandemic collapse, and the labour market is on track to recover and restore the jobs lost during the pandemic. The phasing out of asset purchases has been a hot topic for months. Investors have had a chance to get used to it; there will be no shock like the one in 2013. This also means that the positive impact of this factor on the US currency should be limited. What will be much more important for the dollar's prospects is when the Federal Reserve will decide to start raising interest rates. That, in turn, will depend on inflation, but not how strong its shot is now, but its persistence in the year ahead. Yesterday's reading adds little in this area. If one is tempted to make any assessment, one can say that it does not throw off the Federal Reserve's argument for the thesis that price pressures will die down. We are of the opinion that the dollar has exhausted its potential for appreciation, and the Federal Reserve will dampen hopes for a quick move in the rates. As a result, the US currency should face weakening. We forecast that the EUR/USD will return closer to 1.20 in Q4.