US
USD steadied after yesterday’s broad sell-off, triggered by suspected intervention to drive USD/JPY lower. Global equity markets are up led by an unprecedented 18% surge in South Korea’s Kospi Index, while KRW lagged as portfolio rebalancing flows offset the equity boost.
We believe the USD rally from May has run its course, with DXY poised to retreat back into a 96.00-100.00 range. The tailwind to USD from resilient US economic activity is outweighed by Fed Chair Kevin Warsh failure to turn tough inflation rhetoric into a credible policy, increasing the risk the Fed falls behind the curve in containing inflation.
The June US PCE data was reassuring. However, Warsh risks a credibility gap by relying on markets to do the Fed’s tightening instead of acting itself. His comments this week that markets have done “quite a bit” of tightening, effectively outsources the inflation flight to investors, raising the risk that the Fed responds too late if price pressures reaccelerate.
US June PCE largely matched consensus, confirming the slowdown in inflation already signaled by the June CPI and PPI data two weeks ago. Headline PCE fell -0.1% m/m vs. +0.4% in May due to lower gasoline price, while the annual rate eased to 3.7% vs. 4.1% in May (FOMC 2026 projection: 3.6%).
The monthly rise in core PCE was more subdued than anticipated (actual: +0.1%, consensus: +0.2%, prior: +0.3%) but the annual rate was in line with expectations at 3.3% vs 3.4% in May (FOMC 2026 projection: 3.3%).
The less noisy Dallas Fed trimmed mean PCE and the Cleveland median PCE inflation eased in June to near a five-year low at 2.2% y/y and 2.7% y/y, respectively.
US Q2 real GDP growth underwhelmed but details show domestic demand activity is rock solid. Real GDP rose 1.5% SAAR (consensus: +2.0%) vs. 2.1% in Q1. Encouragingly, real final sales to private domestic purchasers, the sum of consumer spending and gross private fixed investment, increased 3.9% SAAR vs. 1.7% in Q1, the biggest rise since Q1 2023.
The US Q2 Employment Cost Index (ECI) is today’s data highlight (1:30pm London, 8:30am New York). ECI wages & salaries - the Fed’s favorite wage data – was 3.4% y/y in Q1 consistent with the Fed’s 2% target given average annual labor productivity growth of 2.1%.
JAPAN
USD/JPY dropped yesterday as much as 5 big figures to a low of 158.00 on possible FX intervention. USD/JPY recovered to near 161.00 ahead of today’s Bank of Japan (BOJ) policy decision before an intervention-like kneejerk drop to 158.55 later in the session.
Japan’s Ministry of Finance (MOF) released its July report on Foreign Exchange Intervention Operations today. The report is for the period from June 29 through July 29. It therefore excludes yesterday’s action, with full details due at the end of August.
According to Bloomberg calculation, Japan likely spent around ¥8.45 trillion on intervention yesterday. The last intervention showed Japan purchased a record ¥11.735 trillion in the period from April 28 through May 27 to stem the surge in USD/JPY.
BOJ delivered a hawkish hold. As was widely expected, the BOJ kept policy rate at 1.00% and stuck to its hawkish bias stressing it “will continue to raise the policy interest rate.” The vote was 8-1 with staunch hawk Takata Hajime supporting a 25bps hike.
The BOJ has delivered just 50bps of tightening since December 2025 but its updated Outlook Report points to a faster normalization path toward the middle of its estimated 1.10%-2.50% neutral range.
The BOJ raised its FY2026-2027 growth forecast, cut its FY2026 core-core inflation projection and left FY2027 unchanged. Importantly, the BOJ still sees inflation risks skewed to the upside, adding that underlying CPI inflation could overshoot its 2% target. In parallel, the BOJ upgraded its risk assessment of the economic outlook to “generally balanced” from “skewed to the downside.”
Bottom line: there is room for a hawkish BOJ repricing in favor of JPY. The swaps curve already raised the implied odds of a September BOJ hike to roughly 40% from 20%.
EUROZONE
EUR/USD pared back some of yesterday’s gains. Eurozone inflation quickened in July. Headline CPI matched consensus at 2.9% y/y vs. 2.8% in June while core CPI unexpectedly rose to 2.5% y/y (consensus: 2.4%) vs. 2.4% in June. Both headline and core CPI are tracking the ECB’s baseline 2026 forecasts of 3.0% and 2.5%, respectively.
Bottom line: above target inflation and the recovery in Eurozone economic activity reinforces the case for the ECB to resume raising rates in September. That’s unlikely to offer EUR much upside traction as the swaps curve already implies nearly 90% odds of a 25bps rate hike at the September 10 meeting.
UK
Yesterday, the Bank of England (BOE) kept the policy rate at 3.75% for a fifth straight meeting which was widely expected. The vote split was 6-3. Megan Greene, Catherine L Mann and Huw Pill voted for a 25bps hike. Consensus was for a 7-2 split, like in June.
Still, the latest vote split overstates the hawkish shift as Mann was already leaning toward a hike in June. Indeed, Governor Andrew Bailey warned during his press conference “please do not leave this room thinking the Bank of England is edging towards a hike.”
We see scope for a downward adjustment to UK rate expectations which is a headwind for GBP. The swaps curve implies 50bps of tightening to 4.35% in the next twelve months. That would leave the policy rate above the BOE’s estimated neutral range (2.00%-4.00%) when the UK economy is operating well below potential.
Aside from the bank rate decision, the BOE also flagged it may further reduce the pace at which it shrinks its bond holdings. First, the BOE raised its estimate for the increase in the term premium on long-term interest rates due to Quantitative Tightening (QT) by 5bps to between 20-30bps, indicating QT is delivering more tightening than anticipated. Second, a much smaller volume of maturing bonds is in the pipeline next year; £30.5bn vs. £49.1 in the current cycle.
BOE policymakers will vote on QT at the September 17 meeting. We expect the BOE to reduce its gilt holdings rundown to £50bn over October 2026 to September 2027 from currently £70bn. With £30.5bn of maturities due over October 2026 to September 2027, that would keep active gilt sales broadly unchanged at around £20bn.
Nonetheless, a slower pace of BOE balance sheet runoff is unlikely to offset the upward pressure on gilt yields from fiscal policy uncertainty. Prime Minister Andy Burnham leans towards higher spending and borrowing, but the details of his fiscal plan may not emerge until the October budget.
CHINA
USD/CNH is trading at its lowest level since February 2023 despite sluggish economic activity in China. Both the manufacturing and non-manufacturing PMI unexpectedly fell into contraction territory in July.
Regardless, USD/CNH downtrend is intact in our view reflecting both China’s internal rebalancing story and CNH internationalization potential. The international usage of the yuan is very low compared to China’s shares of world GDP and world trade, implying a lot of potential for an increase in its usage.
