G10 Currencies
EUR-USD: The sell-out in EUR-USD which started yesterday morning did not continue nor did we see a stronger recovery. In the end this reflects the protracted stalemate in connection with the aid package for Greece. Even though two of the heavy weights in the European decision making process, Angela Merkel and Nicolas Sarkozy, are meeting today it seems questionable whether the existing differences can be solved.
For external observers the situation has been fairly unclear for some time. On the one hand the opponents of an involvement of the bond creditors fear contagion effects spreading to other countries. The most important players in this group are France and the ECB. They are quick to refer to the Lehman crisis. Even the ECB’s contributions on the issue are becoming increasingly unorthodox. Yesterday morning the euro came under pressure after ECB Council Member Nout Wellink demanded to double the funds in the bailout package from EUR 750bn. to 1500bn. in case of an involvement of private investors so as to be able to react to contagion effects. Comments of this nature can hardly be based on serious calculation as they are simply impossible.
Berlin is diametrically opposed to this view and seems to be completely unconcerned about contagion effects. So that leaves the question how the parties arrived at these completely different views, in particular as the actual outcome is uncertain. On the one hand the Lehman shock was completely unexpected, hitting the financial markets unprepared while a possible collapse of Greece has been in the air for some time. As a result the financial markets might not panic as much. On the other hand the bond yields of the peripheral countries are already beginning to show signs of contagion.
This increasingly creates the impression that neither party concerned is being completely open. France might be against the involvement of bond creditors as French banks might suffer particularly badly in case of a collapse of the Greek banking system. The ECB is likely to be this reluctant as its earlier mistakes of buying bonds and changing the collateral rule for Greece matter more the larger the loss in value of these securities. As a result it now insists on the promise of not abandoning Greece the European governments made at the time. And Berlin? As the country making the biggest contribution the tough attitude on the part of Finance Minister Wolfgang Schauble is likely to reflect political resistance in Germany. If the impression was created that Berlin was willing to provide Athens with more funds without questions being asked, resistance in the German Bundestag was likely to rise. Even if Finance Minister Schauble is unable to impose his will on the rest of Europe (and that is the most likely outcome) he would at least have shown that Berlin does not squander tax payers’ money. Moreover it is becoming obvious that Berlin is playing for time.
If our view is correct the decision about further aid for Greece is not simply based on an economically objective analysis of the current situation. The many factors influencing the decision in the background has damaged confidence in the Euro countries’ ability to act. That had to have a negative effect on the single currency. The news flow regarding Greece is likely to dominate the FX markets once again today as no important data is due for publication. Merkel and Sarkozy are meeting in Berlin at noon. A rapprochement would support the euro but is far from certain.
CHF: In a surprise move the SNB lowered its inflation outlook for 2012 and 2013 rather than revising it upwards as we had expected. Only the outlook for 2011 was revised slightly upwards. On the whole the statement, which was published as part of yesterday’s rate meeting, was not particularly hawkish. Nonetheless the Swiss franc did not come under pressure. The euro zone debt crisis is the dominating topic on the markets and in an environment such as this the franc can benefit. For the first time EUR-CHF yesterday temporarily breached the 1.20 mark. While the uncertainty surrounding Greece persists the franc is likely to benefit as the only safe haven available at present.
Emerging Market Currencies
PLN: Yesterday the zloty was caught up in the storm surrounding the Eurozone debt crisis and depreciated heavily against the euro and the US dollar. The dovish comments by MPC member Andrzej Bratkowski during the morning did not help either. He made it very clear that he did not see scope for further rate hikes this year. According to Bratkowski it would be necessary to wait for the effects of the previous four rate hikes on inflation. There was no support for the zloty on the data side either. As it turned out wages recorded a far smaller rise than the previous month. Should further central bankers follow Bratkowski example and sound dovish the zloty is likely to be completely at the mercy of the Greece crisis and continue its weak development further.
CZK: The image of the Czech krona as a safe haven among the EMEA currencies is heavily tarnished. There is growing unrest amongst the population due to the projected pension reform and the government is coming under increased pressure. The government has only just emerged from votes of no confidence and a corruption scandal surrounding the VV party and the going is still quite rough in the coalition. As a result the koruna found it difficult to escape yesterday’s risk off intermezzo. Once FX markets calm down in the summer following a solution for Greece the gains against the euro should be much larger though.
CNY: China Daily has said that there will be an important CNY policy announced on Sunday, without stating the nature of that policy. There has been speculation in recent times that China could increase the width of the bands that CNY is allowed to trade within. At present the CNY has a maximum 0.5% fluctuation limit against the USD. Band widening would be consistent with the policy reform goal of increasing CNY flexibility. The problem however is that so long as the CNY is widely viewed as undervalue, it will simply drop to the bottom of any trade band announced. As such, it would not constitute true flexibility. Flexibility in the CNY can really only be achieved when CNY is close to fair valuation.
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