Dual political risks weigh on EUR and USD
Dual political crisis in the US and Italy will come to a head on Tuesday which is the deadline for the US averting a possible government shutdown and also a likely confidence vote by Italy PM Letta government following the mass resignation of members of the PDL. While the base case is for benign outcomes in both – the US Republicans and Democrats reach an eleventh hour compromise to pass the spending resolution and the Italian government likely survives the vote – uncertainties are likely to persist through today’s session. For US political risk, the uncertainty could extend until at least mid-October debt ceiling deadline with political brinksmanship likely to remain in place. The implications for EUR are more clear-cut; expect some pressure on select crosses like EURGBP and EURCHF as peripheral spreads widen out, though this may not apply to higher beta crosses like EURAUD and EURSEK. But the USD reaction is more complex; a risk-off tone would be traditionally expected to support USD, while on the other hand fiscal risk, could via downside growth risks, ensure a delay in Fed tapering. The latter reaction appears to be dominating this morning with majors well-bid; GBP, CHF and JPY having all broken through recent highs versus the USD. Our base case expectation is that a shutdown is averted which should allow the USD to regain composure.
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BNP Paribas