European trading on Wednesday was inevitably dominated by Sterling given the high-profile unemployment data and latest Bank of England inflation report. GBP/USD was initially able to find support on dips towards 1.6825 on Tuesday and moved to highs around 1.6875 ahead of the latest labour-market data. There was a further significant decline in the jobless claimant count of over 25,000 and the unemployment rate dropped to a five-year low of 6.8% from 6.9% which was in line with expectations.
In contrast, the latest average earnings data was weaker than expected with the annual increase held to 1.7% for April, unchanged from the previous month, and well below the 2.1% consensus. This figure undermined expectations surrounding consumer spending and also increased estimates of spare capacity within the economy. GBP/USD was put on the defensive with traders wrong-footed and dipped back towards 1.6825.
The inflation report was close to expectations with raised growth forecasts and a lowering of inflation forecasts with the annual rate expected to be below the 2% target in two years time based on a very small increase in interest rates. The overall tone dampened expectations of any immediate tightening and lowered medium-term expectations. There was a sharp rally in gilt futures and Sterling was also put under fresh selling pressure with a GBP/USD slide to lows just above 1.6750 as EUR/GBP recovered from 16-month lows to the 0.8175 area.
The Euro remained on the defensive with markets continuing to price in some form of action by the ECB. Internal sources that the bank was considering a raft of proposals for the June meeting, including a potential move to negative deposit rates. EUR/USD was able to avoid fresh selling pressure, primarily given the need to correct over-sold conditions. In this context, there was support below 1.37 with rallies quickly encountering selling interest.
A stronger than expected US PPI report did not have a major impact, but it will serve to heighten expectations of a stronger CPI release on Thursday and this could trigger expectations of a more hawkish Fed tone. US bond yields, so far have remained at subdued levels below 2.60% which limited dollar support. USD/JPY was susceptible to selling after the inability to move above 102.35 and dipped to test support below 102.00 with lows near 101.70.