Treasure Chest | Aug 20 2012
By Greg Peel
The December and March quarters just past were the strongest in decades for the US economy when measured on OECD leading indicators, note the forex analysts at Danske Bank, thus providing support for a stronger US dollar. Outperformance has since given way to more modest growth. While the dollar should thus now be weaker, the ensuing global slowdown has prevented dollar weakness on a relative basis.
Neither the Fed nor ECB eased monetary policy in the first half 2012, and aside from the UK and China easing elsewhere was limited to smaller economies. Danske Bank nevertheless sees significant global easing in the second half, expecting what we might call a “triple-whammy” of the ECB recommencing bond purchases, Beijing boosting its stimulus program and the Fed delivering QE3. The latter is given a 75% chance by the analysts.
The global economy grew by less than 4% in 2011, slowed in the first half 2012 and is expected by Danske to remain weak over coming quarters. In such an environment the analysts would expect demand for dollars and yen. Even if the ECB begins to buy bonds the positive impact on the euro will be limited and the euro will remain undervalued to its trading partners as it progresses on a year-long reform process.
Expectations for global 2012 GDP have been continually downgraded throughout the year, with consensus currently sitting at 2.1% growth for the US and 0.6% growth for the eurozone. Danske nevertheless sees tentative signs the downgrade period is coming to an end which would be an important signal for the market, Danske suggests, providing pending support for risk assets.
The risk ahead is nevertheless the US “fiscal cliff”, Danske warns, which could represent 3% of US GDP tightening to be implemented in 2013 on a balance of spending cuts and expired tax cuts. Given the upcoming election there is a wide range of outcomes to consider, but condensing it down to two Danske sees either a postponement of the fiscal adjustment, which would support growth and reduce the need for QE3 but could lead to another US credit rating downgrade, or the implementation of a watered down fiscal response which would lower growth but increase the chance of QE3.
Either way, uncertainty around the fiscal cliff and the timing of an actual administration change/reinstatement across the election period will likely crimp any notion of a risk rally at that time even if both the ECB and Fed deliver, Danske suggests. All up, Danske's expectation is that “the great policy response” will “hurt the dollar”.
Australia is one of only seven countries maintaining a “stable” AAA rating, Danske notes (Canada, Singapore, Switzerland, Sweden, Denmark, Norway). The Aussie has thus been strong on a carry trade, flight to quality basis even as commodity prices have fallen (as have CAD, NZD). Danske expects such strength will continue for another three months before the carry trade gives way to slower global growth meeting increased commodity supply, and subsequent further falls in commodity prices.
Yet the Aussie may still struggle to fall if the ECB and/or Fed and/or PBoC implement stimulus measures, given the carry trade would become even more attractive, the analysts admit. Bottom line for the AUD is thus less strength ahead, but no great fall either.
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