What’s happening with currencies this week? Neil Parker, Market Strategist shares his views.
United Kingdom
Sterling wavering against trade deal angst
Last week saw some better UK data and survey releases, suggesting that the recovery remains broadly on track. The pound completely ignored the figures however, focusing instead on the UK/EU trade talks, with both sides describing last week as critical. As it turned out, the talks failed to make any substantive progress, and instead ended in acrimony, with the EU issuing an ultimatum to the UK, and the UK refusing to back down. The EU Chief Negotiator, Michel Barnier, mentioned in his statement that there was still a deal to be done, but the markets are much less sure that either side is willing to seek compromise in these talks and so have reduced the probability of a deal, as reflected in the GBP’s drop against the USD and EUR, slumping over 4 cents versus both. The one piece of good news was that the UK signed a trade deal with Japan, the third largest economy in the world.
This week sees the Bank of England (BoE) meeting and decision on Thursday. Ahead of that, we have the labour market figures for July/August on Tuesday and August consumer price inflation figures due on Wednesday. The UK labour market has seen plenty of damage done over the course of recent months, but a further 110k drop in net employment is expected in July and the risks are that it could be worse than that, based on recent payroll data from HMRC.
The inflation data is expected to record a sharp drop in headline and core inflation rates, as August saw tax changes and incentive programmes for consumers to dine out. These should in large part reverse in September, but were there any other surprises that could even take the inflation rate negative? The Bank of England, much the same as other major central banks, has been worried about too little inflation. This week’s meeting isn’t expected to see a rate reduction or additional quantitative easing, but it could see some dissent from Monetary Policy Committee members, which would signal the mood is shifting. After the BoE meeting, Friday sees August retail sales figures, which should record an additional increase in sales volumes on a month on month basis. Also next week, the EU and UK continue their discussions on trade, but no major breakthroughs are expected. The GBP looks in no place to post any sustained recovery, whilst the uncertainty over UK/EU trade persists.
Europe
Attention on data and trade leaves markets in limbo
The European Central Bank (ECB) met last week and, despite recent signs to the contrary, revised up their forecast for inflation in 2021, as well as revising up the GDP forecast for 2020. The latter was reasonable, given the recent developments in the Euroland economy, but the former made little sense, and perhaps gave the wrong signal to financial markets. Inflation is still set to significantly undershoot target over the coming years, and that provides additional room for loosening, but by revising up the 2021 forecast that makes any additional quantitative easing expansion a little less likely than before.
The ECB did revise down forecasts for growth in 2021 and 2022, but only marginally, whilst ECB President, Christine Lagarde, indicated that she was comfortable with recent EUR appreciation, unlike the Chief Economist, Philip Lane, who reiterated his concerns over the EUR/USD rate in a blog post on Friday.
The EUR may try higher again this week, but I think it will run into similar problems as it reaches up towards $1.19, and it may well again find support in the $1.1750 region, as it did last week.
This week’s data and events calendar is light, and unlikely to offer much additional insight. The German ZEW (Zentrum für Europäische Wirtschaftsforschung / Germany’s Sentiment Index) survey, released on Tuesday at 10:00, should record some improvement in conditions since August. However, nothing is certain, especially with case numbers having climbed lately and countries having to re-impose restrictions. If there are signs of worsening conditions, this would further call into question the ECB’s forecast revisions. It could also prompt some re-evaluation of the EUR.
In short though, markets and economies seem to be in a state of limbo, with the next move, higher or lower, determined by the evolution of the coronavirus, something that remains beyond the control of governments and authorities
United States
Fragile recovery as the chance of fiscal stimulus recedes
Last week saw any hopes of US fiscal stimulus fade further, as the Republican-dominated Senate failed to secure enough votes for a scaled back $500bn stimulus programme. The likelihood is that neither the incumbent nor any incoming President will have the support of both the Senate and House of Representatives, and as such the fiscal stimulus will still need to be a bi-partisan arrangement, but it would seem there are more pressing matters for the US government.
Meanwhile, the US economy still seems to be improving, albeit the pace of improvement looks to have slowed in recent weeks. The slowing in improvement is likely in part due to the rebound already seen, coupled with the climbing infection rates seen in June and July, which may have made consumers more reluctant to venture out in August and into September.
The Federal Reserve’s meeting this Wednesday will already have the Beige Book’s assessment of current conditions, which indicated the recovery was fragile. The outlook for the US economy remains one of steady improvement, but a lack of inflation pressures. Will the Fed judge that based on the prolonged sub-target inflation projections they already had, there is room for additional loosening? Probably not at this meeting, but they may well indicate that unless there is a significant improvement in the economy and pick-up in inflation expectations, there will be room for additional loosening over coming months and quarters.
There are important August data releases this week from the US, including industrial production on Tuesday and retail sales on Wednesday, ahead of the Fed’s decision. For the USD, neither of these releases are likely to support a rebound against other majors, and neither should the Fed decision either.
Rest of the world
Banks remaining cautious, as more cuts look unlikely
Last week’s central bank meetings universally saw monetary policy left unchanged, despite political pressure being exerted in Kazakhstan.
The Bank of Canada’s statement, accompanying the decision on monetary policy, quietly dropped the language suggesting the central bank was ready to loosen further, via additional quantitative easing. That doesn’t mean that the Bank of Canada won’t loosen further, but rather that the economy is currently progressing at least in line with expectations.
The Malaysian central bank ended its run of consecutive rate cuts, suggesting that the cumulative 125 basis points of loosening provided sufficient accommodation for the recovery to continue.
This week sees a number of meetings where the outcome is uncertain, whereas others are a forgone conclusion. Starting with the latter first, decisions from the National Bank of Poland and Brazilian central bank on Tuesday and the Bank of Japan on Thursday should see no change in policy, with rates at all-time lows and negative respectively.
Of the other central bank meetings, the Indonesian central bank aren’t expected to cut interest rates on Thursday, but the emphasis has shifted to quantitative easing expansion after the statement at the August meeting. There could still be some easing of policy at the meeting, but from unconventional measures, rather than a rate cut.
The most likely to cut interest rates is the South African Reserve Bank, who will also meet on Thursday. Even here markets aren’t expecting a cut, but given the weakness of output and inflation, there is room to cut if they want to, without hurting the rand.
Finally, the Russian central bank will meet on Friday. There is room for them to cut as well, even with interest rates at record lows, but the Russian central bank may be worried about currency volatility and so hold off this meeting. Further cuts could come before the end of the year, especially if the economy continues to weaken.
To read the previous quick take, click here.
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