Every now and again central banks have to rely on rumor and innuendo to move the markets in their favor. It’s no surprise that European Central Bank (ECB) policy should be looking outside its ‘Pandora’s Box’ to try and push the Eurozone away from the real threat of deflation. Weakening the EUR in the process would be helping the ECB’s cause. Market participants are taking a long hard look at the disparity between major central banks and this has led to a massive adjustment to forex positions over the past two-trading sessions alone. The ECB is looking to move its policy into more accommodative mode while the Fed minutes showed the debate tapering timing had begun.
Currently, there are four main forces that continue to shape the investment climate: Federal Reserve tapering, further action by the ECB, Japan’s third arrow, and China’s economic stabilization. ‘Helicopter’ Ben Bernanke’s comments midweek did not break any new ground. Yesterday’s mixed U.S. data has done little to support the beginning of tapering next month by the Fed. The biggest threat to Japan’s Prime Minister Shinzo Abe’s third arrow is the private sector. Japanese companies have yet to respond to the improved economic outlook backed by fiscal and monetary stimulus by raising base salaries or ramping up plans to spend more in Japan on plant and equipment. Increasing individual’s disposable income will help Abe’s reflation policy. Overall, China is faring best as it adjusts policy to confront the changing global outlook. What sets the country apart is that it has been growing because of structural change, as the government is capable of addressing the economy’s weakness quickly, unlike most democratic governments.
For the ECB, its choices are few. Euro policymakers need to be looking at non-standard monetary measures to further bolster an economy suffering from record high unemployment, bank de-leveraging, and tight credit conditions. This should include negative deposit rates. The problem is that negative rates remain a contentious issue amongst policymakers, which makes it a tad more difficult to get broad consensus. Just look at the conflicting comments by ECB members this week (namely, Peter Praet and Joerg Asmussen). If it’s an issue for central bankers, it’s bound to be problematic amongst the individual central banks across the European Economic and Monetary Union.
The new reality is that following the slight impact the ECB’s -25 bps rate cut had in calming down the EUR’s strength, the next move has to be across that psychological divide, and into negative deposit territory. An unnamed source yesterday airing similar thoughts was capable of pushing the 17-member single currency a quick 100-pts down outright. According to various analysts, if the ECB decides to cross that rate divide, it will strengthen its forward guidance, and it will add to the view that the ECB will contemplate other actions versus jumping on any quantitative easing measures for the time being. The ECB needs to be surprisingly proactive; this will allow the markets to be reactive, and at the very least, policymakers will be able to get more “bang for their buck.”
This morning’s weaker than expected flash PMI report from France (47.8) supports calls for further ECB easing. The PMI’s continue to tell the story that the Euro-zone recovery remains “fragile and uneven,” with Germany leading the way higher on growth. Already with benign inflation, any adjustment to growth on the downside increases the risks of deflation. The 17-member single currency has been whipped about on headlines this morning. Down on French PMI and up on German PMI. So far intraday traders have been chopped up on the data, net of which leaves the EUR outright little changed as the market heads to the stateside open. Investors should be expecting further bearish short-term technicals to dominate. This will have a market continuing their efforts to pick tops. While the EUR remains under 1.3463 the short EUR held positions remain in control.
Was the timing to taper going to be signposted? This weeks US highlight was always going to be the release of last months FOMC minutes. The market wants clues on the general timing and the minutes were expected to point everyone in the right direction. The report showed that a hefty chunk of the October FOMC meeting was devoted to discussion about “trimming the pace” of asset purchases. But the minutes provided little guidance on the probability of a December taper relative to that of an initial taper in January or March. The members (voters and non-voters) “generally expected that the data would…warrant trimming the pace of purchases in coming months.” Many members stressed the data dependent nature of the asset-purchasing program, and some pointed out that if economic conditions warranted, the committee could decide to slow the pace of its purchases at one of its next few meetings. There we have it, the market remains in the dark as much as they have done the day before.
Central Bankers like talking their own book and Governor Stevens at the Reserve Bank of Australia is up there with the best of them. For a number of weeks we have been listening to how the Aussie economy was running on fumes and how the AUD was relatively overvalued. Even the IMF has had time to chime in on the commodity sensitive currency. It believes that the RBA should stay the course and maintain easy policy settings. A mining-investment slowdown coupled with a “local currency about a 10% overvalued” will continue to drag on economic growth. The continued negative price action (0.9263) is convincing many to flip their positions from bull to bear, even more so that the techies vocalize a bearish engulfing pattern. Even the thought that Governor Stevens was open-minded on intervention to lower the AUD has many non-participants interested. Expect AUD selling to stall in proximity to key support levels.
There is more rhetoric to listen Stateside today. Fed Governor Powell (voter, dove) will speak at 9:45am EST on financial regulation. Richmond Fed President Lacker (non-voter, hawk) speaks on the economy at 12:30pm and St. Louis Fed President Bullard (2013 voter, dove) speaks on monetary policy at 1pm.
With everything considered, the market remains fundamentally bullish on the mighty buck and expects that any positive surprises in US data could push market expectations in favor of a December tapering decision.
Central Bank Talk Prevents Dollar Moves