FX

Modest lift in risk sentiment as Trump – Xi decide to renew trade talks; ECB President Draghi points to further ECB easing soon

_{Posted on Jun 19, 2019}

Modest lift in risk sentiment as Trump – Xi decide to renew trade talks; ECB President Draghi points to further ECB easing soon

On any other day, USTR Rob Lighthizer’s appearance before Congress may be the biggest source of trade headlines as he testifies before the Senate Committee overnight but it is Trump’s tweet about his telephone conversation with President Xi to have an extended meeting next week at the G-20 that modestly lifts risk sentiment with the 2 negotiating teams expected to begin talks prior to their meeting. The news drives a modest risk rally and selling in USD/Asia though markets overall appear to be reserving their judgement on the likely outcome.

EURUSD tests overnight lows near 1.1180 in early NY (but holds) thanks to ECB President Draghi’s dovish delivery at Sintra. ECB President Draghi’s Sintra speech overnight sends a clear dovish signal, indicating both that the ECB Governing Council would deliberate on easing measures ‘in coming weeks’ (in time for the ECB’s 25 July meeting) and that additional stimulus would be required ‘in the absence of improvement.’ The language therefore suggests further easing measures by the time of the July (easing bias) or September (actual measures by way of rate cuts).

US administration’s aim for a weaker USD may be closer to realization than markets appear to be discounting for

2 Trump tweets overnight suggest a more aggressive push for a weaker USD – (1) Trump pushes back aggressively on ECB President Draghi’s dovish Sintra delivery, saying “following Mario Draghi announcing more stimulus could come, which immediately drops EUR, makes it unfairly easier for them to compete against USA….they have been getting away with this for years, along with China and others“; (2) Unverified reports that White House lawyers may have explored legality of demoting Fed Chair Powell in February, but concluded it could not be done. Trump follows an hour before the NY close and when asked if he wants to demote Powell, says “let’s see what he does.”

Setting the stage for the FOMC meeting tonight, Citi analysts expect the Fed to put the option of rate cuts on the table by “closely monitoring” global developments but the base case remains that cuts may not be warranted this year. However, the Fed statement may also indicate the committee is ready to “act as appropriate to sustain the expansion.” Many 2019 “dots” will also likely drift lower but the risk is for a median dot for 2019 that does not show cuts (ie a flat trajectory).

In Japan, Citi analysts expect BoJ to leave policy unchanged through 2019 (despite market talk of a possible 10bp rate cut this week). On Thursday, Citi analysts estimate Japan nationwide core CPI at 0.7%YY in May.

July ECB meeting now seen as “live” to change to an easing bias; UK Tory leadership contest favors “Hard Brexiteers”

Following ECB President Draghi’s ultra-dovish speech at Sintra overnight, unnamed ECB sources suggest rate cuts may be the "weapon of choice" if they need to act again to boost inflation" rather than resuming asset purchases. Citi analysts now see the July ECB meeting as “live” to likely change language in the guidance to 'rates at present levels or lower', thus tilting the bias towards lower rates and the September meeting to potentially deliver a rate cut with new staff projections. Note current euro market rates are pricing 3.5bps of cuts by the July ECB meeting and 9bps by September.

German ZEW expectations fall to a 7 month low - the headline ZEW expectations balance for Germany (survey of financial analysts) declines more than expected in June to -21.1% from -2.1% in May (Consensus: -5.6 , Citi -6.0), second consecutive drop after an short-lived improving trend since last October. Expectations on the economy also deteriorate for the euro area as a whole (to -20.2% from -1.6% in May). Current assessments still declining – Analysts’ current assessment for the German economy also eases, but less than expected to 7.8% from 8.2% in May (Consensus: 6.1, Citi 3.0). In the Eurozone as a whole the current assessment actually improves slightly from -7% to -3.7%, with the lowest reading still in Italy (-78.7%). Citi analysts - Despite rising German equity markets, which are usually reflected into improving investor sentiment in the ZEW survey, expectations this time are affected by the re-escalation of trade tensions, concerns around a war in the Middle East and around a no-deal Brexit. The outlook for the German economy, especially for its manufacturing sector, remains cloudy and the ZEW clock moves closer to recessionary territory.

In the UK, the results for the second round of the Conservative leadership contest sees Dominic Raab cut from the process while hard Brexiteer Boris Johnson enhances his lead and still looks in command. Bottom Line – 2 scenarios – (1) A disorderly Brexit with perhaps a short and final “technical” extension up to January 2020 at which point, the UK leaves the EU under a "controlled No Deal"; OR (2) UK government falls under a “no confidence” motion as it tries to push through a “No Deal” and fresh elections ensue that raises the prospect of a Jeremy Corbin led Labor government - neither alternative is seen as being supportive for sterling.

BoE PMC meeting tonight: MPC Split Emerging? The Bank is still guiding to gradual rate hikes. Contrary to other economies, the UK has experienced nearly two years of above-target inflation and faces a tight labor market. Citi analysts see a chance for up to two dissenting votes in tonight’s BoE meeting but an August rate hike is no longer base case.

RBA June Minutes signal further rate cuts

RBA Minutes of the June meeting state that “members agreed that it was more likely than not that a further easing in monetary policy would be appropriate in the period ahead.” Citi analysts also expect the next RBA rate cut to be in August with July an outside chance but also note that the Governor has called on fiscal and structural policy to support the RBA’s moves and therefore ascribe a low probability of QE (that has been the subject of some talk) being deployed in the current policy cycle. Markets await the RBA Governor’s speech tomorrow on the Australian labor market.

This is an extract from the Daily Currency Update, dated June 19, 2019. Please approach a Citigold Relationship Manager if you would like more information.