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June 2022 - Monthly Economic Outlook

3 June 2022


Gain an overview of the latest developments on the currency market and anticipate fluctuation risks.
Two stories

The month of May was marked by two major trends. The first was the widespread decline of the US dollar against the currencies of the G10 (the world’s largest economies) from mid-May. This was mainly due to an overall improvement in risk appetite and a tightening of short-term rates in the bond market. We doubt that the dollar’s decline will last. There are too many anxiety-provoking factors in the currency market at the moment (will there be a recession, for example?). The dollar will recover in the short term. The second was the rise in the euro from mid-May. This was due to the European Central Bank’s (ECB) insistence that it will raise rates quickly to counter inflation. A massive and sustained rate hike will be required if we want the euro to trend upwards over the medium term. We don’t think this is going to happen.

High: 1.0802 Low: 1.0350 Change: +1.74%
The rebound in the euro, which began around mid-May, was driven both by an increase in risk appetite (which we do not expect to last) and by the many comments made by members of the ECB’s Governing Council in favour of a rapid tightening of monetary policy. The eurozone is expected to exit the negative interest rate period by the end of the third quarter of this year. This is a major turning point that has supported the euro. In addition to this, there are several references to paying particular attention to the exchange rate (which is a factor affecting inflation, in particular): “An overly weak euro would run counter to our objective of price stability” said Banque de France Governor François Villeroy de Galhau two weeks ago (he is an influential member of the Governing Council, close to Christine Lagarde’s positions). The question now is whether the euro’s bullish rally against the US dollar will continue. This is a possibility in the short term, provided that economic indicators remain positive (which is not certain). In the longer term, we remain convinced that we have entered a strong dollar world (due to recession risks, for example). It is therefore unlikely that the EUR/USD currency pair will be anchored above 1.10 in the coming months. Instead, we see the pair close to 1.05-1.07.

High: 0.8594 Low: 0.8377 Change: +1.10%
The economic situation in the UK is deteriorating very quickly. But sterling is resilient for now. In the space of a month it has only lost 1.10%, which is reasonable. Many economists (including our in-house economist) believe that the UK is probably already in recession. Activity indicators for the services and manufacturing sectors (PMIs) collapsed in May. UK consumer confidence was at an all-time low in April (latest data available). The cost of living has risen so much in a short period of time that even middle-class households are beginning to struggle to make ends meet. Leading indicators used by economists (such as those provided by the OECD) confirm the high risk of recession. This does not mean that sterling will collapse. But there is a risk of a return to volatility in GBP currency pairs (notably EUR/GBP) in the coming months if economic conditions deteriorate further.

High: 138.98 Low: 132.62 Change: +1.27%
Japan is beginning to worry about rising inflation (primarily on the energy component). But it does not plan to change its ultra-accommodating monetary policy. Rightly, the Japanese authorities believe that the fight against imported inflation must include fiscal measures. As a result, we expect the currency to weaken in the short to medium term. We expect the EUR/JPY currency pair to return to the May high of 140 (three month high) in the coming weeks. For the time being, Japan has refrained from carrying out its threats of direct intervention in the foreign exchange market in order to support the yen. This is a risk that remains.

High: 1.0500 Low: 1.0188 Change: -0.12%
The Swiss National Bank (SNB) is known for its interventionism in the foreign exchange market. But it is also known for its inaction on key rates. This could change soon. Andrea Meachler, an influential member of the SNB’s Governing Board, has indicated that the Central Bank could tighten its monetary policy if inflation were to rise. Inflation in the Swiss Confederation reached 2.5% year-on-year in April (this is undeniably much lower than in the eurozone where inflation was 7.4% over the same period!). But it seems that the SNB does not want to delay in reacting. In the wake of the ECB’s planned rate hike in July, we believe that the SNB could also raise its key rate (currently at -0.75%, the lowest in the world). Unlike the eurozone, the exit from negative interest rates is not going to happen anytime soon in Switzerland. For EUR/CHF, a rate hike by the SNB would have the mechanical effect of strengthening the CHF in the short term.

High: 1.3809 Low: 1.3392 Change: +0.19%
The rise in EUR/CAD started in mid-May (similar scenario for EUR/USD). This was mainly due to the increase in risk appetite (which favours the single currency) and, above all, to the prospect of rapid monetary tightening in the eurozone (as of July). But the upwards trend could be short-lived. The Bank of Canada (BoC) will also tighten financial conditions significantly. A 50 basis point increase occurred this week. More will certainly come in the short term in order to slow down inflation which is peaking at a 30 year high. The Canadian economy is in a complicated position. Former BoC Governor Stephen Poloz said last week that he feared Canada could slide into stagflation (this is also the scenario that is feared for several eurozone countries).

High: 1.5279 Low: 1.4600 Change: +0.22%
Since mid-May, the currency pair has almost stood still, fluctuating in a range of only about 150 points. This is low at a time when volatility has been rising recently in many currency pairs. The upcoming rate hike by the Australian Central Bank (due on 7 June) is already priced into the market. The consensus forecast is for an increase of around 40 basis points to 0.75% (in line with the scenario outlined in the minutes of the last Central Bank meeting on 3 May). Further increases are expected in order to contain wage pressures as much as possible. The market expects the key rate to reach 2.25% in 2023. In the long term, we at Ibanfirst continue to believe that Australia’s monetary tightening will benefit the AUD.

High: 7.2817 Low: 6.9878 Change: +3.65%
China is in a complex economic situation. The country has initiated a policy of supporting the economy (through a number of monetary measures) in recent weeks in order to offset the negative impact of the zero-Covid policy. Successive lockdowns have notably dried up access to credit for businesses and households. But too aggressive (fiscal and/or monetary) easing is ruled out in our view as it could increase the risk of capital flight (investors leaving China in search of better returns). There is therefore a great deal of uncertainty in the short term as to how much room for manoeuvre the Chinese authorities really have to pull the economy out of the current period of weak activity (or even contraction of activity if we focus on the activity indicators for the services and manufacturing sectors). For EUR/CNH, there was a marked appreciation in May (reflecting a widespread upwards trend in the euro in the foreign exchange market). It is likely that the authorities do not mind the CNH falling as long as it remains limited.
03/06 USD US employment figures for May
07/06 AUD Central bank meeting
09/06 EUR Central bank meeting
10/06 USD US Consumer Price Index for May
14/06 USD US Producer Price Index for May 
15/06 USD Central bank meeting and economic  forecast update 
28/06 HUF Central bank meeting

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