Friday's US labor market report showed that the expected damage from the rapid spread of the Omicron strain of COVID-19 turned out to be far from so severe. In January, 467 thousand new jobs were created the previous two months were revised by +709 thousand. The employment gap narrowed to 2% if we count from the pre-pandemic level.
The strong growth is initially in line with the Fed's hawkish plans, but everything is not so simple. The growth of average hourly wages in January reached 5.7% against 5.0% a month earlier, but if we adjust for inflation, we can find that real wage growth is negative and approximately corresponds to the level of the end of 2007 – the period before the massive economic crisis (blue line on the graph below).
Falling real incomes primarily means lower taxes. If the Fed maintains the stated pace of monetary policy tightening, then for the US budget, this means an increase in debt servicing costs with a simultaneous decrease in income in the balance sheet. There are two ways out – either to urgently take control of inflation, or at least raise the federal minimum wage, which means an increase in employers' spending on the wage fund and a rapid slowdown in growth.
In fact, we are seeing clear signs of approaching stagflation. If a similar problem was solved in 2008 by launching QE1 and lowering the rate, then now, it is necessary to do the exact opposite. The implementation of the Fed's plans can lead the US economy into a new recession immediately.
As the US external balance sheet is hopelessly in deficit, a strong US dollar that reduces the cost of imports can help keep the situation under control. It turns out that the US dollar will strengthen at a faster pace, which is likely to be supported by hawkish comments from Fed members.
EUR/USD
The yield of Germany's 10-year T-bills has risen above zero for the first time since February 2019. The EUR/USD pair has gained more than two figures since Thursday, which is due to markets' reassessment of the prospects for the ECB rate. At the moment, market expectations for the rate suggest an increase of 0.5% this year. This is less than the Fed forecast, but the beginning is big trouble. Perhaps, the markets are too optimistic about the euro. ECB Governor Lagarde insists that the rate will rise only after the completion of the APP asset purchase program, which means that the ECB will have to accelerate the pace of completion of the APP to be able to raise the rate in September, but we are not talking about summer yet. During this time, the Fed can go ahead by at least half a percent.
The movement in the futures market is minimal. The CFTC report should be considered neutral for the euro, but the settlement price is still rising due to the dynamics of the yield spread. It can be assumed that the current bullish momentum is not yet over.
The local high of 1.1485 is expected to be updated again. It is unlikely to rise above the target of 1.1590, so we will look for signs about the completion of the bullish momentum and make a downward reversal.
GBP/USD
The pound did not find the strength to take advantage of the situation despite the Bank of England's hawkish decision. Attempts to rise were blocked. It is possible that the reasons are in overly cautious comments by Bailey, who stated that "it would be a mistake to assume an inevitable increase in rates." Now, it all depends on whether the Bank of England will take a break, as 2-3 advances will put pressure on the pound and may lower it to 1.32 if the pace of the rate is maintained. Market expectations suggest 1.75% by November, which seems too much. If so, the pound may rise to 1.38 or even 1.40 in the coming weeks.
The CFTC report for the pound is weak, but it should be assumed that the rate hike last Thursday was still not considered, so it can be uninformative.
The pound failed to consolidate above the level of 1.36. The inability to go above this level worsens the technical picture and leaves risks of a decline to 1.34. The support level is at 1.3510/25, while the resistance is at 1.3615/25. The pound still has chances to try resuming its growth as long as the settlement price is above the long-term average.