US Consumer Inflation Slightly Exceeds Expectations, ECB Prepares for Meeting: Market Overview

Consumer inflation in the United States in August came in slightly above expectations, as indicated by the report released on Wednesday. Core inflation, which excludes items or services with volatile prices, reached 0.3% for the month. While the deviation from the forecast (0.2% MoM) is not significant, it is likely enough to prompt the Federal Reserve (Fed) to maintain its projection of a single interest rate hike by year-end during the upcoming meeting.Headline inflation deviated slightly more from the forecast due to a 10% increase in fuel prices in August, but the market had already priced in this development, reacting to the recent rally in the oil market.The market reacted with indifference to the acceleration in core inflation. This can be attributed to elevated market expectations, as the market had already factored in the risk of fuel-related inflation driving up core inflation. Additionally, a slowdown in the growth of housing expenses (Shelter Inflation) from 0.4% in July to 0.3% in August played a role:This component, which represents the most inert or "sticky" aspect of the Consumer Price Index (CPI) for services, closely reflects the underlying trend in consumer prices. The dynamics of this component could potentially offset the relatively minor acceleration in the overall core inflation figure, as it is clear that the trend is more important than month-to-month fluctuations driven by seasonal or transitory factors.Today, the market is focused on the European Central Bank (ECB) meeting. According to interest rate derivatives pricing, the likelihood of a rate hike is estimated at around 65%. Therefore, an actual rate hike would come as somewhat of a surprise, potentially causing the European currency to strengthen and also lifting the British pound. The belief that the ECB will raise rates today gained momentum following a Reuters report suggesting that ECB economists are likely to revise their inflation forecast for the next year upward to 3%. However, it is worth considering that the cumulative tightening of policy expected by the market until the end of the year is only 23 basis points, which is roughly equivalent to a single rate hike. To drive sustainable euro appreciation, the ECB will likely need to convince the market that further tightening cannot be ruled out. The extent of dissent within the Governing Council regarding September's tightening will be crucial. If the decision is made with only a slight and minimal majority, then Lagarde's assurances that "there could be more" are unlikely to have much effect. Overall, the potential euro strength is likely to be short-lived and levels above current ones, say 1.08 for EUR/USD, could present an excellent opportunity to enter short positions ahead of the Fed's meeting next week, where the potential for hawkish surprises is much higher.The market is not anticipating a Fed rate hike next week, but it will be looking for potential surprises in the Dot Plot, which represents the rate projections of top Fed officials collected on a single chart. Signs of disinflation are likely to leave rate projections unchanged compared to the previous Dot Plot version (one more rate hike till the end of the year):However, the economic resilience of the United States, evident in recent incoming data, could compel officials to push back the potential rate cut in the following year to a later date. This particular development could significantly impact the market (especially long-dated fixed income assets like 10-Year Treasuries) and contribute to further strengthening of the US dollar.