There
has continued to be an important easing of immediate fears surrounding
the Euro-zone as financial risks have eased, at least for now. This has
triggered an exodus of defensive capital flows from currencies such as
Sterling and the Swiss franc. Confidence may remain stronger in the very
short term, but there are still very important policy risks surrounding
the Euro-zone.
Key events for the forthcoming week
| Date | Time (GMT) | Data release/event |
| Wednesday January 30th | 13.30 | US GDP (Q4 advance) |
| Wednesday January 30th | 19.15 | US Federal Reserve policy decision |
| Friday February 1st | 09.30 | UK PMI index manufacturing |
Dollar:
The US labour-market data has
remained generally encouraging and there should be solid growth in the
short term, although sharp downward revisions to some regional indices
will cause concern. The Federal Reserve will maintain a very
loose monetary policy in the short term with bond purchases continuing.
The Fed will, however, be under pressure to moderate quantitative easing
slightly or take a firmer verbal stance if growth conditions improve
further. There are still important battles surrounding automatic
spending cuts with congressional tensions liable to increase again. The
dollar will gain some defensive support if fears surrounding the Asian
growth outlook increase again.
The dollar was generally
firm on a trade-weighted basis, but the US currency was weaker against
the Euro which tended to over-shadow the impact to some extent.
There
was further discussion of the debt ceiling with House Republicans
holding a vote on whether to suspend the debt ceiling issue until the
end of May. Approval lessened the immediate default threat which had
some impact on underpinning risk appetite. There was a downward revision
to the Chicago PMI index, matching a sharp downward revision to the
Philadelphia Fed index which caused some unease surrounding the US
outlook.
The latest US jobless claims registered another
decline to 330,000 in the latest week from 335,000 the previous week.
The decline to a fresh 5-year low may have been influenced to some
extent by seasonal considerations, but here will still be optimism over
growth trends. The Markit PMI manufacturing index also increased
to 56.1 from 54.0. The BIS stated that quantitative easing would risk
being increasingly ineffective and any comments from Fed
| Euro |
Structural
fears surrounding the Euro-zone will remain lower in the short term.
There has been a continuing decline in peripheral bond yields with a
series of strong bond auctions. There will be some uncertainties over
the impact of an early repayment of LTRO funds. The growth outlook in
Germany has certainly improved, but conditions within the Euro-zone as a
whole are still very difficult with peripheral recession continuing
while the French economy is continuing to deteriorate. Overall
confidence in the Euro could still falter quickly given the underlying
growth vulnerability.
The Euro pushed higher during the week
with further support from gains on the crosses and it broke above the
1.34 level in early Europe on Friday.
The Euro-zone data release
offered important support with the German ZEW index rising sharply to
31.5 from 6.9 previously and this was the highest reading since May
2010. There was also a decline in yields for the latest Spanish bill
auction and the government secured demand in excess of EUR20bn for the
latest syndicated bond sale. There was, however, a further decline in
Spanish house prices for the fourth quarter, maintaining fears over
further losses in the banking sector.
The Euro-zone data
as a whole recorded an improvement in manufacturing and service-sector
conditions according to the flash PMI data. There was a significant
improvement in the German economy notably for services and there is
likely to have been an improvement in peripheral economies, although
still below the expansion threshold. In contrast, there was a further
deterioration in the French readings, increasing fears surrounding the
French outlook and competitiveness.
There was also a rise in Spanish unemployment to
26% for the fourth quarter from 25% which will maintain unease over the
Spanish outlook and potential social consequences. The Bank of Spain
stated that there was a fourth-quarter GDP decline on 0.6%, confirming
an annual decline of around 1.2%.
There are likely to be some LTRO repayments
over the next few weeks as banks look to repay funds that can now be
accessed more cheaply in markets. There could be some positive impact on
the Euro, although there will also be concerns that banks in peripheral
economies will not be able to repay funds.
Yen:
The Bank of Japan
has introduced a 2% inflation target and will maintain an aggressive
monetary easing. The open-ended commitment to bond purchases is not due
to come into effect until 2014 and there will be further concerns
whether the central bank will actually deliver on the more
aggressive policies. The appointment of new Bank of Japan governor will
be watched very closely over the next few weeks. The underlying
economic fundamentals remain weak with a substantial trade deficit
undermining the yen directly and triggering demands for a more
competitive currency as political pressures continue.
The Bank of Japan
confirmed another raft of measures to combat deflation. The bank will
switch to an open-ended commitment to buying assets next year and will
also increase the inflation target to 2% with a commitment to reaching
the inflation goal at the earliest possible time. The dollar found
support just above the 88 level and rallied steadily as there was solid
yen selling on rallies with vulnerability on the crosses.
There
were further expectations that there would be aggressive capital flows
out of Japan, especially into emerging markets through Toshin funds. The
overall evidence, however, was still mixed with no evidence of
substantial capital outflows at this stage.
There was a further Japanese trade deficit
for December which took the 2012 deficit to a record JPY6.9trn as
exports remained under pressure. The data tended to maintain negative
underlying yen sentiment and Deputy Economy Minister Nishimura sated
that the yen correction was not yet over.
There were some cautious comments from German Chancellor Merkel who
was uneasy over the Bank of Japan becoming so engaged in currency
issues and there was some criticism of the government stance to promote a
weaker currency.
Japan’s core consumer inflation reading was in
line with expectations at -0.2% which will reinforce pressure for more
aggressive policy action to meet the 2% inflation target and the dollar
held above 90.
| Sterling |
There
will be further concerns surrounding the UK growth outlook which will
reinforce fears surrounding the government finances. There have been
calls from the IMF for a change in policy and overall confidence
in economic policies is liable to deteriorate sharply, especially after
the GDP contraction for Q4. There will be expectations of much-reduced
defensive Sterling support in the short term, especially with Euro-zone
fears easing and this could have an important impact in undermining
Sterling.
Sterling was on the defensive during the week
with further losses against the dollar and Euro with four-month lows
near 1.5750 against the US dollar.
The headline UK government borrowing
data was broadly in line with expectations. There was an underlying
increase of over GBP7bn for the first eight months of the year with
generally weak tax receipts. The substantial structural deficit will
maintain fears over the UK AAA credit rating. There was also a weak
reading for the CBI industrial survey with orders at -20.
Bank of England Governor King stated
that the Monetary Policy Committee could consider further quantitative
easing. There were comments surrounding the bank’s remit with King
stating that it was time to review the situation. He was particularly
concerned as to how the MPC should balance short-term inflation and
growth risks.
The latest labour-market data was
stronger than expected as the headline claimant count fell by 12,100 for
December to an 18-month low following a revised drop of 8,900 the
previous month while the unemployment rate declined to 7.7% from 7.8%.
The Bank of England MPC
minutes were broadly in line with expectations with a 9-0 vote for
unchanged rates and an 8-1 vote not to adopt further quantitative
easing. Some members expressed doubts whether any further quantitative
easing would be justified. In contrast, there were further concerns
surrounding Sterling’s level.
Prime Minister Cameron’s European
speech did not have a major impact, although there were some underlying
concerns over potential negative implications for the economy if there
is a prolonged period of uncertainty.
There were further underlying concerns surrounding economy as the IMF called
for a shift in fiscal policies and there was also unease surrounding
the fourth-quarter GDP release with expectations of a further
contraction. Chancellor Osborne was generally very cautious over the
outlook, but pledged no change in policies. GDP fell a provisional 0.3%
for the fourth quarter.
Swiss franc:
Given
that the Swiss franc was a key beneficiary of defensive inflows during
the Euro-zone crisis, there will be further speculation of a reversal in
flows now that Euro-zone tensions have eased. There will be further
debate over the merit of lifting the Euro minimum level, although the
National Bank is certainly very reluctant to engage in a policy of fine
tuning.
The Euro was able to secure net gains against the
Swiss franc despite seeing a sharp corrective decline from highs above
1.25 and the US currency was broadly resilient.
National Bank
member Danthine stated that there was no scope to fine-tune the Euro
minimum level which continued to dampen speculation over a short-term
move to a 1.25 minimum level. There was still expectations that there
would be a decline in defensive inflows, especially after the Danish
central bank increased interest rates.
|
| Australian dollar |
The
Australian dollar was unable to make any impression on resistance
levels towards the 1.06 area and dipped significantly weaker later in
the week. There was further evidence of position adjustment and an
unwinding of long Australian dollar positions
Domestically, the consumer inflation data
was weaker than expected with a headline 0.2% increase and a core
reading of 0.6% which fuelled expectations of further Reserve Bank
interest rates.
The Australian dollar is unlikely to make
much headway, especially with further rate-cut expectations and the
risk of fresh concerns surrounding the Chinese outlook.
Canadian dollar:
The US dollar was
able to find support at lower levels and rallied strongly during the
week. There was some further unwinding of long positions and the core
retail sales data was weaker than expected.
As expected, the Bank of Canada
held interest rates on hold at 1.00%. In the statement, there was a
more dovish tone with Governor Carney stating that, although there was
still a case for an eventual policy tightening, the bank was not
expecting to reach full capacity until the middle of 2014 which
triggered a scaling back of rate expectations which undermined the
Canadian dollar.
With a more dovish Bank of Canada stance, the
US currency broadly resilient on valuation grounds despite optimism
surrounding Canadian fundamentals.
Indian rupee:
The
rupee maintained a solid tone during the week and pushed to beyond the
54 level against the US currency despite the impact of strong dollar
demand by importers.
The government announced that it was
increasing foreign investment limited which bolstered confidence in the
capital account. There were no suggestions that the central bank was
looking to intervene to weaken the currency which helped bolster
confidence in the rupee.
The rupee will gain near-term
support from wider Euro resilience and hopes for capital inflows. It
will still be difficult to secure strong local currency gains.
|
| Hong Kong dollar |
The Hong Kong dollar continued to stay away from the 7.75 band limit during the week, although there was no move beyond the 7.7530 area.
HKMA officials continued
to warn that there would be no move away from the currency peg and
continued to pledge that high-profile bets by prominent hedge funds
would fail. There was still underlying speculation that there would
need to be a medium-term policy shift given persistent domestic
inflation stresses.
Given that inflation fears will continue,
especially with aggressive monetary policies in the US and Japan,
medium-term speculation surrounding the Hong Kong peg.
Chinese yuan:
The
yuan maintained a generally firm tone over the week and the spot rate
traded beyond the 6.22 level against the US dollar. The PBOC continued
to resist gains even with the US currency unable to make headway
against the Euro. There was further evidence of corporate dollar selling
which provided underlying yuan support.
There was some optimism surrounding the Chinese economic outlook
following a solid reading for the HSBC flash PMI index, but here was
still a high degree of caution surrounding the lending outlook as banks
remained extremely cautious over extending fresh loans.
Even
with continuing corporate dollar selling interest, the yuan will still
find it difficult to make much headway, especially with the PBOC likely
to resist gains.
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officials will
be watched closely.
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