FYI | Jul 06 2012
By Chris Tedder, Research Analyst FOREX.com
Since investors in Asia last handed the reins to those in Europe three central banks have taken action to simulate their respective economies/region. As expected, the BoE dusted off another GBP50 and ECB cut the main refinancing rate to 0.75%. However, the market was not expecting the PBoC to cut its lending rate for the second time in a month, this time by 31bps, and the ECB to lower its deposit rate to zero.
Overall, the moves to simulate growth provided a temporary boost for risk assets, with the exception of the euro which was hit hard by the lack of liquidity easing from the ECB. Investors are questioning the effectiveness of the cuts by the European Central Bank and clearly believe it is not going to be enough – we are inclined to agree. By bringing the deposit rate down to zero the ECB is hoping it will encourage banks to lend, but with no end in sight to the European debt crisis are banks really going to lend more and, in turn, risk more?
Furthermore, this unintentional coordinated central bank action tells us policy makers are concerned about the health of the global economy. In particular, the shear aggressiveness of easing from Beijing over the last month casts doubt over the effectiveness of recent policy loosening and the ability of the Chinese government to control the growth slowdown. Also, the limited and short-lived reaction of risk assets to the news out of Beijing tells us the market wants to see more aggressive easing on all accounts. Whilst there is no doubt about the large store of ammunition the PBoC has to tackle the slowdown in growth, whether the bank will be able to continue to aggressively ease policy is another question. Beijing is facing a situation whereby it is being forced to stimulate growth but may not want to, as it risks magnifying the housing bubble and/or stocking inflation (a point brought up by the government in a speech following the announcement it was easing again). Hence, this begs the question how long can China keep this easing cycle up before the costs outweigh the benefits?
Granted, in the FX market there are other forces holding back risk currencies, namely the collapse of the euro and the better than expected data out of the US (June ADP employment up 176K; initial jobless claims down 14K; June ISM non-manufacturing employment index up to 52.3) which is causing investors to question whether the Fed will enact more QE, thereby putting upward pressure on USD. However, the market is likely waiting for confirmation in the form of better than expected non-farm payrolls figures tonight before completely discounting more easing measures from the Fed – which we don’t think is coming any time soon.
The end result is that despite all the moves by central banks to simulate growth the market is still not happy. Investors want more aggressive easing on all accounts, especially from the ECB and the Fed. Thus, until we see this risk assets may have a ceiling. AUDUSD and NZDUSD look to be capped around 1.0500 and 0.8500, respectively, and it is unclear if EURUSD will be able to push back above 1.2500. Major equity markets and most commodities may face a similar problem.
Overall, we think there is the possibly of more downside for risk assets in the near-term. However, this doesn’t mean data releases will be completely ignored by the market. In fact, it may be the exact opposite as investors look towards the data to tell them what they already suspect, that global growth is still slipping and, in turn, central banks should act more aggressively to stimulate the global economy.
All views expressed are the author's and not by association FNArena's (see our disclaimer).
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