UK PPI Input (MoM) (FEB) (09:30 GMT; 05:30 EDT)
Expected: 1.6%
Previous: 2.6%

UK PPI Output (MoM) (FEB) (09:30 GMT; 05:30 EDT)
Expected: 0.6%
Previous: 1.0%

What Are The Markets Facing?

Given the rapid gains in oil and other commodity prices, there are well-warranted concerns that global inflation will rise significantly. The prospect of increased price pressures only compounds the problems that the Bank of England already faces as they contend with mounting downside risks to growth and uncertainty surrounding the ongoing reappraisal of risk in the financial markets. Despite the fact that credit market conditions are still tight, Bank of England Governor Mervyn King and his Monetary Policy Committee decided to leave rates steady at 5.25 percent on March 6. However, with no monetary policy statement released when there is no change to the overnight lending rate, the markets will have to wait until March 19 for the issuance of the meeting minutes in order to get a better sense of the BOE’s bias. Nevertheless, it is fair to say that inflation was probably their predominant concern after crude oil futures on the New York Mercantile Exchange rallied throughout the week to ultimately hit a record high of $106.54/bbl on Friday. This conundrum may be highlighted next week as UK input and output cost growth is forecasted to continue and could be a but stronger than current estimates. According to a Bloomberg News poll of economists, the consensus reflects expectations for a 1.6 percent gain in producer input costs and a 0.6 percent rise in producer output prices. Such readings would not only suggests that broad inflation pressures are mounting, but also that companies are feeling the squeeze on their profit margins as they are unable to pass through the increased costs to their customers. The news will set the stage for the release of CPI the following week, which may show that consumer price growth accelerated faster than the Bank of England’s 2.0 percent target once again, but with the downside risks to the economy
still of major concern to the MPC, it may not prevent the central bank from cutting rates again in the near-term.

Bonds – 10-Year Long Gilt Futures

Despite a sharp pullback from the 112.03 high on Friday, Gilts remain in a clear uptrend and may be targeting the January 22 high of 112.57. Risk aversion trends remain the primary driver of price action for Gilts, but traders should keep an eye on Monday’s PPI data, as signs that inflation pressures are building significantly will lead the markets to judge that the BOE will leave rates unchanged again in April. As a result, Gilts could hold below the 112 level for now.

FX – GBP/USD

The combination of a broadly weak US dollar and the Bank of England’s decision to leave rates unchanged at 5.25 percent on March 6 allowed the GBP/USD pair to surge through the 2.00 level to hit a more than two-month high of 2.0215 on Friday. However, resistance from the 200 SMA at 2.0131 and the psychologically important 2.02 level has kept the pair from surging significantly higher. Upcoming economic data out of the UK could shake the pair up, as producer price figures may suggest that inflation pressures continue to build, which may force the BOE to leave rates steady at 5.25 percent again in April. As a result, if the PPI input and output numbers are stronger than expected, GBP/USD could push above resistance to ultimately target the 61.8 percent fib of the decline from 2.1162 – 1.9338 at 2.0461. On the other hand, surprisingly soft data could help weigh GBP/USD down to return to the 2.00 level.

Equities – FTSE 100 Index

The FTSE 100 has run into support near 5,700, though the general trend for the index remains to the downside as the financial markets remain on edge. Monday’s UK event risk could tip the index even lower, as rising producer price inflation will put additional pressure on the UK economy. Indeed, deteriorating conditions in the UK have already forced the Bank of England to reduce interest rates by 25bps in December and once again in February. Counter to what some believe, the rate cuts have done little to help boost shares in the UK – as the Federal Reserve rate cuts have not helped US equities – and with the Bank of England remaining open to additional reductions in the overnight lending rate, the FTSE 100 may have far lower to fall.

Terri Belkas is a Currency Strategist at FXCM.