Markets’ last week’s optimism regarding the war in Iran faced at least a partial reality check this week, as energy traffic at the Strait of Hormuz remains effectively frozen. Trump announced an extension to the ceasefire with Iran, but tangible progress in the actual negotiations seems elusive. Trump also announced a three-week extension to the ceasefire between Lebanon and Israel, but oil markets were little affected, as the price of Brent crude has risen back to around USD105/barrel.
Prices of refined oil products, like jet fuel or diesel, have also seen renewed upticks. The equity market rally took a breather, with European indices underperforming their American equivalents, and the EUR/USD rate declined back below 1.17.
Over the coming days and weeks, markets will increasingly focus on not just what happens on the ground in Middle East, but also the economic impact across the globe. This week’s April flash PMIs offered a mixed but also distorted bag of signals. Manufacturing indices moved higher across the US, UK, euro area, Japan and Australia, but lengthening delivery times and front-loaded new orders amid expected price hikes and supply shortages likely contributed to the upticks. Notably, the euro area recorded a clear downtick in services sector business activity (47.4; March 50.2), which could be a concerning sign of the negative sentiment effects. Unsurprisingly, leading indices for both input and output prices rose sharply across the different economies and sectors.
As such, both the ECB and the Fed will have plenty of mixed data and unclear geopolitical signals to digest in their next week’s meetings. We expect both central banks to leave their monetary policy unchanged for now and wait for more clarity before reacting. Eventually, we expect the ECB to hike rates twice in the summer, in the June and July meetings. Even if policy rate hikes can do little about the first-order cost pressures stemming from the war, we believe the ECB will focus on ensuring inflation expectations remain well anchored by modestly tightening its policy. We see a good chance the policymakers will ultimately end up cutting rates again earlier than markets expect, already during the spring of 2027.
In contrast, we expect the Fed to maintain a steady hand through summer and eventually resume its rate cutting cycle in September and December. In his hearing at the US Senate, Kevin Warsh emphasized the importance of differentiating between the underlying pace of inflation and supply-driven level shifts in prices, and that the Fed should only react to acceleration in the former. Senator Thom Tillis is still withholding confirming Warsh’s nomination as the new Fed Chair, but underscored this was not related to Warsh himself, but Department of Justice’s ongoing probe into the Fed. If the nomination gets delayed past the end of Powell’s term as the Chair (15 May), Powell will remain as the acting Chair for as long as needed.
Elsewhere, Bank of England, Bank of Japan and Bank of Canada are all widely expected to maintain their policy stances unchanged. On the data front, perhaps the most interesting releases will be euro area’s flash April inflation and Q1 GDP, released just hours before the ECB’s rate decision. We forecast headline inflation at 2.8% y/y and core inflation at 2.3% y/y. Q1 GDP data is due for release also from the US and Sweden, while China releases the latest set of official PMIs on Thursday.
