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FX Update - Central banks take centre stage

Written by Ian Dobbs on July 2nd, 2013.      0 comments

Market Overview:

This week is a big one for markets, with a number of central bank monetary policy decisions followed by the key US employment numbers on Friday.  Today we have the Reserve Bank of Australia rate decision, then on Thursday we have both the Bank of England and the ECB policy meetings. In the wake of the Fed’s announcement on tapering quantitative easing, interest rates have moved higher around the world. This is not a welcome response for many central banks who are still trying hard to stimulate economies into consistent growth. Officials from many countries have been on the wires recently stating rates are to stay low for the foreseeable future. They could use these meetings as a chance to be much more specific, and give definite time frames on how long rates will remain low. This forward guidance would at the least see short term interest rates regain some of the lost ground. The end of the week will hold plenty of opportunity for action with US employment numbers set for release. The US dollar has remained strong in the wake of the Fed’s announcement, and the risks must lie with a low employment growth number causing a decent correction.

The Australian dollar ended last week on a soft note as broad based USD strength sent it to a fresh low for this cycle. There were no key drivers of the move and so far this week we have seen a recovery of some of the lost ground. There is going to be plenty of fundamental news out of Australia this week for the market to take a lead from. The most notable of which is the Reserve Bank of Australia interest rate decision out this afternoon. Yesterday saw data on the manufacturing sector released. This showed a big positive jump in the index. Although it still shows the industry is still contracting, it was the highest result for two years. The RBA will take heart from results like this as they are an early indication of a rebalancing in the economy. Also out yesterday was data on the Chinese manufacturing sector which showed the weakest reading for four months. This was expected though, as the credit squeeze has slowed the flow of cash to companies. Key data later in the week comes in the form of retail sales, trade balance and building approvals.  

New Zealand
New Zealand has a very light economic calendar this week and as a result the market will be looking to offshore factors to take the lead. Central bank interest rate decisions from Australia, Europe and the UK will give plenty of chance for volatility. The broad theme of US dollar strength is still very much in play, even in the face of repeated calls from Fed officials last week that the market has overreacted to Bernanke’s announcement of the tapering of monetary stimulation. The NZD got pushed down to just above 0.7700 on Friday evening as flows continued to support the USD across the board.

United States
The USD has continued to remain well supported across the board. This comes despite continued talk from FED officials who are all singing the same tune. The rhetoric is that the market has overreacted to the FED’s announcement on tapering quantitative easing. It seems the market’s reaction after the announcement in the interest markets caught FED by surprise. Subsequently, the FED, and most other central banks around the world, have been stressing that interest rates are not going up anytime soon. Markets love to get ahead of themselves, and maybe they have here. But the fact is that ultra easy monetary policy cannot last forever, and at least in the US, it’s close to being scaled back. Last night we got a reading on the US manufacturing sector that looked pretty good at first glance. The sector has shown an overall improvement from the previous month and the result was higher than expected. However, there is some concern about the employment aspect of the report which dropped to its lowest level in four years. With unemployment a key indicator for any FED tapering, this has raised eyebrows. At the end of this week we get the overall US employment growth data. If this happens to surprise with a low number, there is plenty of potential for the markets to unwind at least some of their recent moves. Before that, there is a report on the non-manufacturing sector due for release on Thursday, as well as a number of other FED officials due to speak.

Europe’s manufacturing sector for the most part, seems to be improving. We got readings from a number of countries last night, and these all came in stronger than expected. This will be welcome news for the ECB, who are predicting a return to growth in the Euro-zone in the second half of this year. However, there are many headwinds, the least of which is not Italy that could derail those predictions. The ECB is likely to remain very cautious at this week’s monetary policy meeting, and will no doubt try to talk down interest rates that have moved higher in line with the US. Higher interest rates in Europe threaten to undo all the good work the ECB has done over the last year, and they will be keen not to let that happen. There is rumor they may give ‘forward guidance’ on interest rates. That is to state a definite time frame in which rates will not be moved. The Euro has remained well supported recently, in line with the slightly improved economic news. A very cautious tone from the ECB on Thursday, would reduce chance of a change in policy in the foreseeable future, and this could see the EURO put under a little pressure in the short term at least.

United Kingdom
Recent data from the UK has been supportive of the Pound Sterling and the overall economic outlook. At the end of last week we got consumer confidence numbers that beat expectation, with the best reading in two years. Last night a survey of the manufacturing sector was also stronger than expected and well into expansionary territory. This will put a smile on the face of the new Bank of England (BOE) governor, Mark Carney. He has just taken over the role and this week has his first monetary policy meeting. He may well have the best timing in the world, jumping into the job just as the outlook for the UK starts to brighten. That been said, many feel he will want to stamp his mark at the BOE, and what better way to do that than shake things up at his first policy meeting. Although no change in rates is almost a certainty, it’s hard to know what impact he will have on any vote for more quantitative easing. Most likely there will be no change in that as well, but there is talk he could make his mark by releasing a statement with the policy decision. The BOE are one of the few central banks not to do so. This statement could include forward guidance on the likely future path of interest rates. Whatever happens, this week’s rate decision by the BOE holds more risk than usual. Ahead of that decision we get readings on the construction and service sectors of the economy.

Yesterday saw the release of business survey results from Japan and they were very positive numbers. The mood among businesses has improved sharply, with manufacturing sentiment turning positive for the first time in nearly two years. This is great news for the government, and Bank of Japan (BOJ), as it confirms readings from a number of other indicators that show the economy is starting to pick up. Japan’s economy minister was on the wires shortly after the release saying he sees a ‘V’ shaped recovery for Japan. That may be a little optimistic and there is a long way to go, but these are nonetheless very positive results. What will also please BOJ Kuroda is the reduction in volatility seen over the last week in Japanese stocks and bonds. He is due to make a speech on Thursday which will no doubt be somewhat upbeat.

At the very end of last week we saw the release of Canadian GDP. It came in bang on expectation and didn’t have much impact as month end flows seemed to dominate the market. We saw another bout of broad based US dollar strength which saw the CAD back toward lows for this cycle, a move in line with the NZD and AUD. The economic calendar is light for the first half of this week, but the second half sees trade balance data followed by employment data and a survey of business optimism.