“Foreign Exchange Market Review: FED’s Dovish Decision, European Recession Worries, and US Economic Data Support Volatile Dollar Trend”

On Friday (May 5), the U.S. dollar index basically maintained a volatile trend during the week. After the Federal Reserve decided to raise interest rates by 25 basis points this week, it released a relatively dovish tone, which put pressure on the U.S. dollar. However, good US economic data, coupled with the banking crisis, global economic slowdown and other safe-haven needs, the dollar basically maintained a volatile trend.

In other non-U.S. markets, the euro fell slightly against the U.S. dollar this week. The European Central Bank raised interest rates by 25 basis points.GBP/USD fluctuated higher this week, good economic data and interest rate hike expectations supported the pound

Looking forward to next week, important economic data such as the U.S. CPI for April will be released. In addition, officials from the Federal Reserve will also make remarks. Investors should pay attention to key events such as the U.S. debt ceiling crisis. Next, let’s take a look at the factors that affect the trend of several major currency pairs this week.

The U.S. dollar index basically maintained a volatile trend this week. The Federal Reserve released a dovish tone this week to suspend interest rate hikes to put pressure on the U.S. dollar, but good U.S. data and safe-haven demand for the U.S. dollar limited the U.S. dollar’s ​​decline

Figure: US index daily chart trend

The Fed’s decision to release the dovish tone of suspending interest rate hikes puts pressure on the dollar
In a markedly dovish shift, the Fed dropped language in its statement that it “anticipates that some additional policy tightening may be appropriate to obtain a sufficient monetary policy stance to bring inflation back to 2% over time.” , the market reacted directly to this by dumping the dollar aggressively.

The chances of the U.S. central bank raising policy rates again in June are less than 10 percent, up from nearly 40 percent just a week ago, according to CME Group’s FedWatch tool.

Following its policy meeting in May, the Federal Reserve announced on Wednesday that it would raise its policy rate, the federal funds rate, by 25 basis points to a range of 5-5.25%. In its policy statement, the Fed dropped its notion that it “anticipates” further tightening to reach its “adequately restrictive” stance. The policy statement noted that we will take into account tightening to date, policy lag, and other developments when determining the appropriate level of further tightening. The U.S. banking system is sound and resilient. Tighter credit conditions could weigh on the economy, employment and inflation. Job growth has been strong, and inflation remains stubbornly high. The planned reduction of the balance sheet will continue. The interest rate resolution was voted unanimously.

Federal Reserve Chairman Powell said in a post-meeting press conference that the FOMC did discuss the possibility of suspending rate hikes, but did not decide to do so in May. It feels like we’re getting closer to a point like that, and there might be a pause for a while. In principle, there is no need to raise interest rates to too high a level. Whether rates are already effectively restrictive (for the US economy) is being assessed. We are trying to achieve an effectively restrictive level of interest rates and maintain policy at that level. A balance must be struck between raising rates not enough and the risk of raising them too far. Rate cut possibility If inflation remains high, we will not cut rates. The FOMC’s inflation outlook does not support the Fed’s rate cut.

Powell said bank failures/tightening credit conditions and the deadlock over the debt ceiling were not factored into the May 2-3 rate meeting decision. Capitol Hill needs to raise the debt ceiling in a timely manner. Failure to reach a debt ceiling deal would have “highly uncertain” consequences for the U.S. economy.

The Fed believes that the debt ceiling poses a risk to the outlook. As far as the risk of a U.S. debt default breaks out, no one should assume that the Fed can protect the U.S. economy, nor should anyone assume that the Fed can defend U.S. credibility. Inflation The Fed is committed to a 2% inflation target. There is still a long way to go in bringing inflation down. Lowering inflation may require a soft landing for the labor market. Long-term inflation expectations are well anchored. There is a large excess demand in the employment labor market. Wage growth is above the 2 percent rate that has been consistent with inflation for a long time.

U.S. debt default worries weaken the dollar’s influence, which is not good for the dollar
U.S. Treasury Secretary Janet Yellen warned on Monday that the agency may not be able to repay all its debts by June 1 if the debt ceiling is not raised. This raised market concerns over a potential U.S. debt default.
The bipartisan battle over the US debt ceiling could lead to an unprecedented US default. Moody’s Analytics has warned that a default could trigger a 2008-style economic disaster, wiping out millions of jobs and setting America back generations.

According to another report, the White House released an assessment document on Wednesday, which will explain the consequences of the US economy if Congress does not raise the debt ceiling. The White House Council of Economic Advisers (CEA) believes that a long-term default will lead to a “doomsday scenario” similar to the Great Recession, when 8.3 million people will lose their jobs and the stock market will plummet by 45%; a short-term default will cause 500,000 people to lose their jobs and the unemployment rate will rise by 0.3%.

If the negotiations are completed by the deadline (June 1), it could result in 200,000 job losses and a rise in the unemployment rate of 0.1%. In all three scenarios, U.S. economic growth would turn negative, with contractions ranging from 0.3% to 6.1%, which could lead to the start of a recessionary period.

Several regional banks in the United States have problems, and the market’s risk aversion is rising to support the dollar
The resurgence of problems in the U.S. banking industry has raised concerns about the contagion of the banking crisis and put enormous pressure on oil prices. Previously, regulators took over First Republic Bank and sold its assets to JPMorgan Chase & Co. It was the third U.S. regional bank to fail in two months, following the closures of Silicon Valley Bank and Signature Bank, the largest U.S. bank failure since the 2008 financial crisis.

The recent turmoil in financial markets has led to tighter credit, complicating the situation. U.S. regional lender Westpac is considering various strategic options to deal with the crisis, including selling the bank, following the Federal Reserve’s decision to raise interest rates to the highest level since 2007.

Westpac shares fell more than 50% after the close, indicating that investors are very concerned about the situation at Westpac Bank. Regional U.S. banks were hit hard after First Republic became the second-largest bank failure in U.S. history and the third major banking failure in the past six weeks, sparking investor concerns about the financial health of other mid-sized banks. selling pressure.

Fears of a global economic slowdown also spurred safe-haven demand for the dollar. On Wednesday, the Fed raised interest rates by 25 basis points, while the European Central Bank is also expected to raise rates by 25 basis points at its meeting on Thursday. In addition, the Bank of England will also raise interest rates at the May meeting to curb high inflation. That fueled fears of a global economic slowdown.

Good U.S. data this week supports dollar

At 20:30 on Friday (May 5), Beijing time, the U.S. Department of Labor announced that the number of non-agricultural employment in April was higher than expected, and the previous value was revised down sharply. The unemployment rate fell and wages rose.

Data show that the number of non-agricultural employment in the United States increased by 253,000 in April, which was significantly higher than the expected increase of 180,000. The previous value was greatly revised down from 236,000 to 165,000; The values ​​were 3.50% and 3.60% respectively; the annual rate of average hourly wages in the United States recorded 4.40% in April, 0.2 percentage points higher than the previous value and the expected value.

Institutions commented on non-farm payrolls in April. Under the banking crisis, the stronger-than-expected employment report will reassure people; according to institutional analysis, after the release of the non-agricultural data, US stock index futures rose 0.5%, and the increase nearly narrowed slightly. Things seem to have changed in the stock market now. A few months ago, a stronger-than-expected jobs report could have sent stocks lower amid fears of further Fed tightening. But now, a stronger-than-expected jobs report is reassuring, as it suggests the economy is actually doing well, weighed down by turmoil in the banking sector. However, it is still early days for what the credit picture tells us.

U.S. private sector payrolls rose by 296,000 in April, well above market expectations of 148,000, compared to market forecasts of 148,000. Additionally, annual wage growth fell to 13.2 percent from 14.2 percent. In addition, the ISM services PMI rose to 51.9 in April, higher than the market’s expected 51.8 and the previous 51.2. However, the S&P Global Services PMI and Composite PMI fell back to 53.6 and 53.4 in April from 53.7 and 53.5 previously.

Data from the U.S. Census Bureau on Tuesday showed that factory orders rose 0.9% in March, slightly better than market expectations for a 0.8% rise, after falling 1.1% in February. New orders for durable consumer goods rose after two straight months of decline in March, rising 3.2%, matching the previously reported increase.

According to data released by the US Bureau of Labor Statistics, the number of job vacancies on the last working day of March was 9.59 million, compared with market expectations of 9.77 million and 9.97 million in February. During the month, total hiring and separations were little changed at 6.1 million and 5.9 million, respectively. Among those leaving jobs, resignations (3.9 million) were little changed, while layoffs and layoffs (1.8 million) increased. U.S. job vacancies fell for a third straight month in March and layoffs rose to their highest level in more than two years, pointing to a softening in the labor market that could help the Fed’s fight against inflation.

The euro fell slightly against the U.S. dollar this week, the European Central Bank raised interest rates by 25 basis points, the European Central Bank was caught in a dilemma between economic growth and inflation control, and concerns about recession in the euro zone were heating up

Chart: EUR/USD daily chart

On May 4 local time, the European Central Bank held a monetary policy meeting and decided to raise the three key interest rates in the euro zone by 25 basis points. The main refinancing rate, marginal lending rate and deposit mechanism interest rate were raised to 3.75%, 4.00% and 3.25% respectively from the 10th of this month.

The central banks of the 20 euro zone countries have hiked interest rates by a combined 375 basis points since July 2022, the fastest tightening yet, but given mounting wage and price pressures central banks are still likely to act, the report said. further action.

The rate hike is reportedly a slowdown after three consecutive hikes of 50 basis points. It comes just days after Eurozone banking data showed that loan demand fell by the most in a decade. That suggests that previous rate hikes are having an impact on the economy, with higher rates holding back growth.

However, the ECB did not offer any direction for future moves. “The Governing Council of the ECB will continue to use economic data to determine the extent and timing of austerity measures,” it said in a statement.

The report also said: Decisions on interest rates will continue to depend on assessments of the inflation outlook, upcoming economic and financial data, current inflation dynamics, and the strength of monetary policy transmission.

Policy makers have been divided on whether to raise rates by 25 basis points or 50 basis points ahead of the meeting, but given economic data in recent weeks and a slowdown in other central bank tightening measures, markets and economists are It is overwhelmingly believed that it will choose to raise interest rates slightly.

The ECB statement on Thursday said there remained significant upside risks to the inflation outlook. With corporate profit margins still high, the recently negotiated wage agreement increases the risk of inflation rising in the medium term. At the same time, renewed tension in financial markets and a marked tightening of bank lending could also lead to a faster-than-expected decline in inflation over the medium term.

The turmoil in the banking industry is considered one of the reasons why the ECB ended its rate hike cycle earlier. When talking about the potential risk that the turmoil in the U.S. banking industry may spread to the euro zone, Lagarde emphasized that there are great differences between European and American banks in terms of size, business model, and especially regulation. The banking sector in the euro area is better capitalized and more resilient. However, affected by the continued turmoil in banks in the United States, the European Stoxx Bank Index fell by about 6% in the past week, and set a new low in more than a month on Thursday.

Analysts believe that since the European Central Bank started raising interest rates in July 2022, it has been in a dilemma between curbing inflation and seeking economic growth. The monetary tightening policy has led to a weak economy in the euro zone and faces downside risks.

On July 21, 2022, the European Central Bank held a monetary policy meeting and decided to raise the three key interest rates in the euro zone by 50 basis points, and raised the main refinancing rate, marginal lending rate and deposit mechanism rate to 0.5%, 0.75% and zero. It was the ECB’s first rate hike since 2011.

Analysts pointed out that under the influence of many factors such as the negative spillover effect of the Federal Reserve’s aggressive interest rate hikes and the spread of the European energy crisis, the inflation data in the euro zone continued to rise; at the same time, the exchange rate of the euro against the US dollar continued to fall, which led to a sudden increase in the pressure on the European Central Bank. forced to raise interest rates for the first time in more than a decade.

After that, the European Central Bank continued to raise interest rates to curb inflation. As of May 2023, it has raised interest rates by 375 basis points. But while euro zone inflation has eased recently as energy prices have fallen, it remains well above the ECB’s 2 percent target.

At the same time, the preliminary data released by Eurostat recently showed that the GDP of the euro zone in the first quarter of this year only increased by 0.1% from the previous quarter. Some economists believe that the economic growth in the euro zone is weak and still faces downside risks in the future.

Reports released a few days ago showed that banks in the euro zone have tightened credit standards significantly. This suggests that rate hikes are affecting the European economy, while ECB policies are limiting growth. Some economists said that the eurozone’s economic performance will continue to “remain sluggish” in the second and third quarters.

Investment banking experts pointed out that although the central bank may continue to raise interest rates in the near future, the most radical monetary policy tightening cycle since the birth of the euro has entered the final stage. Despite the current increased risks in the economy and financial markets, a 25 basis point rate hike by the ECB is a reasonable interest rate move. Services prices are expected to rise sharply due to increased pressure on wage costs. The ECB is still on track to raise interest rates further in June.

Fund company QC partner Thomas? Altman also said that the inflation rate in the euro zone is still too high actually ruled out the possibility of the European Central Bank to suspend or even end interest rate hikes at the interest rate meeting held in June. The ECB has entered the final phase of its current tightening cycle. In the current very complex macro environment – continued turmoil in the banking sector, slowing growth and uncertainty about the lagged impact of previous rate hikes, with inflation still high – the ECB will proceed more cautiously, with interest rate peaks likely to be higher than in Europe The central bank is currently expected to be reached sooner.

Ulrich Kater, chief economist at Deka Bank, said the ECB is nearing the end of its rate hikes and expects one or two more rate hikes. Commerzbank chief economist Kremer also expects rate hikes in the euro zone to end in the summer. And that ultimately wasn’t enough to bring inflation down to 2% permanently.

GBP/USD fluctuated higher this week, good economic data and interest rate hike expectations supported the pound

Chart: GBP/USD daily chart

At the beginning of this year, institutions including the Bank of England were concerned that the British economy might enter a technical recession in the first half of the year. But today, strong economic data and optimism among entrepreneurs have basically wiped out worries about a recession in the UK.

The latest UK services PMI for April showed that the expansion of the service sector in the UK further accelerated in April. According to data released by Standard & Poor’s (S&P), the UK’s service industry purchasing managers’ index PMI further rose to 55.9 in April, the highest level in a year. In March, the figure was 52.9. This data also exceeded market expectations. The market had previously expected that the PMI of the service industry in the UK in April might be around 54.9. Meanwhile, the U.K.’s composite purchasing managers’ index, which includes services and manufacturing, rose further to 54.9 in April from 52.2 in March. This is the highest level since the data last May.

According to data released by Standard & Poor’s (S&P) on the 2nd, in April, the UK manufacturing purchasing managers index PMI was finally set at 47.8, slightly lower than the 47.9 in March. Of the five components of the Manufacturing PMI, output, new orders, employment and purchased inventories were all in contraction. But despite this, optimism among UK manufacturing companies about the future also rose to a 14-month high in April.

More than 61% of the surveyed companies indicated that they would increase production in the future, and some enterprises indicated that they would increase future business investment. Rob Dobson, director of global market research at Standard & Poor’s (S&P), pointed out that improvements in the supply chain and a slowdown in the pace of input cost increases have made UK manufacturing entrepreneurs more optimistic about the latter months of the year.

Driven by optimism, British consumers are now more daring to spend and spend. Analysts at Standard & Poor’s (S&P) pointed out that strong consumer spending has accelerated the expansion of the British service industry, which is more evident in related fields such as tourism and leisure.

This optimism is also reflected in the housing consumption of British residents. According to data released by the Bank of England on the 4th, in March, the UK approved 52,011 housing mortgage loans, which is the highest level in nearly five months. Considering the Bank of England’s continuous interest rate hikes and housing mortgage interest rates continue to increase, the rise in this data surprised the market, but also excited the market. Housing intermediaries had generally predicted that due to rising interest rates, the UK housing market would be under pressure, with both sales and prices at risk of falling.

The optimism of British entrepreneurs also appeared in the first quarter survey report released by the British Federation of Small Businesses a few days ago. The survey by the Federation of British Small Businesses found that compared with the fourth quarter of last year, the optimism of British entrepreneurs improved significantly in the first quarter of this year, and the confidence of entrepreneurs in industries including retail, accommodation, food and manufacturing rose sharply. That’s roughly in line with a survey by Standard & Poor’s (S&P). Standard & Poor’s (S&P) analysts pointed out that for the next few months, with the coronation of King Charles III, the British tourism industry is expected to get a further boost. British service providers’ optimism about the coming year has increased significantly, and more than half of the survey respondents indicated that they will increase related investment in the service industry in the coming year.

The upward pressure on prices that has passed its peak and will slowly decline is one of the main factors in the optimism of UK residents and entrepreneurs about the future. Bank of England Governor Bailey said earlier that the UK consumer price index has crossed the apex. The British government’s Office for Budget Responsibility said in March that by the end of this year, UK prices would have fallen sharply. Although inflation in the UK is currently above 10%, a slow decline will be inevitable.

According to data released by the British Retail Consortium on the 2nd, the overall store price inflation index of British supermarkets eased slightly in April, falling to 8.8% from 8.9% in the previous month. Helen Dickinson, chief executive of the British Retail Consortium, said UK consumers should see food prices drop in the coming months as wholesale prices fall.

The Bank of England’s monetary tightening policy has come to an end. Although inflationary pressures in the UK are still high, the market expects that the Bank of England may end the current round of monetary tightening after raising interest rates twice in the future.

Higher wages for employees contributed to the optimism of British residents and also promoted the growth of British consumption. According to data released by the Office for National Statistics on April 18, in the three months to the end of February, the average total salary of British employees (including bonuses) increased by 5.9% year-on-year, and fixed wages excluding bonuses increased by 6.6% year-on-year. Among them, the average fixed salary in the private sector increased by 6.9% year-on-year, while the average fixed salary in the public sector increased by 5.3% year-on-year. Standard & Poor’s (S&P) analysts pointed out that it was the rise in employee wages that drove the expansion of the UK service industry to accelerate in April.

“Mortgage approvals rose in March as some households took advantage of a pullback in mortgage rates from recent highs,” said Niraj Shah, an economist at Bloomberg. “While the collapse in housing demand may be bottoming out, approvals remain At a level that suggests subdued activity, it means that the correction in the UK housing market is not over.” Second, Imogen Pattison, an economist at Capital Economics, warned that mortgage approvals were unlikely to rise further from “still weak levels”. “We don’t think mortgage rates will fall further until the Bank of England cuts rates, which are not yet in sight,” she said.

Driven by general optimism, the worries surrounding the contraction of the UK’s economic growth are gradually dissipating, and the growth prospects of the UK economy are becoming brighter.