The irreplaceable global reserve currency. The US dollar still reigns supreme as it represents 59% of all central bank global reserve currency holdings. Many alternatives such as the Japanese Yen, Swiss Franc, Euro and, most recently, the Chinese Yuan have been offered up over the years. Global currencies such as IMF Special Drawing Rights (SDRs) have also been posited. The fact remains, however, as soon as the global picture worsens all paths lead to dollar strength. Not twelve months ago, news began appearing around China’s plan to replace the world’s reserve currency with a common BRICS currency. Since then, China’s economy has experienced a spectacular drop off with its currency falling over 7% in the same period. The keys to a viable reserve currency are size, stability and trusted institutions. The economy the currency is attached to must be large enough to support global requirements as well as having a stable policy and structural environment and a set of legal and commercial institutions that can be trusted. Other factors include the currency’s convertibility and how open its financial markets are. China currently only ticks one of those boxes as the world’s second largest economy. Many have written off the dollar over the years, but it still remains, by far, the only viable option. This week, as often in times of trouble, we have seen it extend its winning run.
- The past week saw a 0.5% appreciation in the US Dollar index after its first losing week since mid-July. The worsening geopolitical picture from the fallout of the Israel-Gaza conflict has pushed safe haven flows back to the world’s reserve currency. Further escalation in the region remains possible, with Hezbollah in Lebanon allowing Hamas elements on its territory to exchange fire with Israeli forces, Israel moving population away from its northern border, Iran insinuating that its proxy Hezbollah may enter the war and the US and other Western powers positioning naval forces in the Eastern Mediterranean to deter these adversaries. The unwelcome scenarios here tend to indicate further dollar strength.
- Although the week was dominated by geopolitical events, there were key data releases from the US – namely the inflation prints on Wednesday and Thursday. Headline inflation remained steady at 3.7% and core inflation dipped 0.2% to 4.1% year on year. Both are in line with expectations. There was a worrying uptick in both annual core and headline producer price inflation, however, in a sign further pressures may be on the way. Producer prices tend to lead consumer prices when inflation is driven from the supply side.
- Another big worry on this front is the big jump in oil prices potentially having a further inflationary effect on the economy. Growth remains robust in the US, however, leaving more room for interest rate hikes if needed. This paints a much rosier picture than the dollar’s G3 counterparts in the Euro and Sterling.
- A mixture of a ‘risk off’ sentiment in the market and strong US data is leading to calls for another push towards EURUSD parity from leading world banks and major financial institutions. It remains to be seen if the effects of rapid interest rate hikes over the past eighteen months will begin to start causing cracks in the world’s largest economy. As of now, however, all paths lead to the dollar.
- In China we saw CNY move a touch weaker to 7.31 against the dollar. Further declines in exports, imports and inflation weighed on the currency as its overall economy continues to suffer. Markets will be looking at growth figures set to be released in the coming week for any signs of an (unlikely) rebound. Debt default levels in the real estate sector represent a severe threat to the stability of the economy. China’s largest private developer, Country Garden, is the latest casualty as a default is set to be announced this week. News of government intervention in the banking sector to prop up share prices was welcome to investors but did not give the impression of a strong economy that markets are looking for.
- Another round of bad news for China’s banking sector may be just around the corner as reports have circulated of undeclared distress in a large portion of the small business loans that have been subject to moratoria on both repayments and recognition of bad debts since the onset of Covid. Given that small-business loans account for 29% of outstanding debt in China, if these concerns are even partially accurate it will be another significant blow to the economy and the currency.
- The Yen posted declined back towards the 150 level against the dollar amid another week of disappointing data. Producer price inflation, machinery orders and industrial production were all in negative territory as Japan continues to struggle with its domestic economic picture. No news surrounding a change in monetary policy, or an FX intervention leave little hope of a rebound in JPY.
- The Aussie had yet another losing week against the dollar, finishing the week trading 1.4% down. The housing sector showed little sign of a rebound with building permits down 22.9% year on year. The Israel-Gaza conflict has had a deeply negative effect on non-oil commodities, which is very bearish for AUD. Australia is huge commodity producer and the other major headwind for the economy is a struggling China is its major trading partner. Aussie Dollar holders will be hoping for a rebound in the Chinese economy to provide much needed relief for the currency, though this looks a forlorn hope at present.
- INR remained flat a touch weaker than 83 vs USD last week as the Indian economy appears to be in good health. After the RBI held rates steady at 6.5% last week, we saw strong industrial production, export and import data in signs the Indian economy remains on the right path. The managed depreciation of the currency looks set to remain on course.
- PKR enjoyed its fifth consecutive week of gains against the dollar last week, appreciating by 2.1% to 277.6. There were no major market moving data releases last week as PKR continues its longest winning streak since 2020.
- Nigerian Naira official rates remain in a stable trading range since the June devaluation of the currency, with a midpoint of 760 vs USD. The spread between this and the parallel market has steadied in the past week, suggesting a slight easing in shortages on the ground.
- The Kenyan Shilling posted another weekly decline of 0.4% against USD, continuing a long-running trend. There were no data releases of note last week. Dollar shortages in Kenya continue to weigh on the shilling, however.
- The Tanzanian Shilling remained steady at 2500 against USD as the central bank and government continue to take measures to address Dollar shortages. Inflation data on Monday showed a 3.3% increase in prices, year on year. Other than that, no major news out of Tanzania last week.
- South African Rand rebounded by over 2% to trade a touch stronger than 19 Rand to USD. An increased business confidence data release on Thursday helped support the currency in the midst of a highly volatile period. Inflation and retail sales data releases this week will give a better idea of the health of Africa’s second largest economy.
- Large decreases in industrial and manufacturing production led to a 0.7% depreciation in sterling against USD as signs of a cooling economy weigh on the currency. This week, we will see data releases for inflation and retail sales which will give a clearer picture of the overall health of the economy. The growth outlook will be key to future expectations in relation to rate hikes as the economy begins to slow down. The course of GBP will likely be led by geopolitical events, however, with safe haven flows continuing to move back towards USD.
- The Euro depreciated by 0.2% in a data-light week for the common currency. The only print of note showed a 0.6% increase in month-on-month industrial production. Markets will be looking at key inflation prints in the coming week. The Euro area is highly sensitive to oil price increases with its previous major supplier, Russia, under sanctions. News of a 5% spike in oil last week has led to downward revisions of growth forecasts. A worrying period lies ahead for the European economy.
- There is market speculation that Egypt may exploit the Israel-Gaza situation to extract concessions from its Gulf state creditors in return for letting Palestinian refugees enter Egypt. This would relieve budgetary pressures in a situation where the IMF are delaying release of the latest tranches of bailout payments.
- The Polish Zloty increased 1.9% upon news that former prime minister, Donald Tusk, was headed for election victory, at the expense of the ruling populists.
- The Russian Rouble surged 4% against the dollar as capital controls were put in place amidst worries of capital flight. This strengthened the currency but is also indicative of Russia’s weakened place in global markets under the impact of Western sanctions.
- The Argetine Peso tumbled 7.4% against USD as markets brace for a potential victory of radical right wing candidate Javier Milei in this month’s presidential elections. Milei espouses libertarian policies starting with a sweeping wave of privatizations, dollarizing the economy, and eliminating the fiscal deficit in one year, before moving on to slashing the size of the state and eliminating a wide range of policies. Markets have been put off mainly by the likely recessionary effects of his monetary and fiscal pledges, together with the social conflict a program such as this could ignite.
- Israel sold $30bn of dollar reserves to support the Sheckel as ILS hit seven-year lows amidst conflict in its southern border, and possibly soon in the north as well.
PERFORMANCES AGAINST US DOLLAR
- RBA Meeting Minutes
- UK Unemployment Rate
- UK Average Hourly Earnings
- EU ZEW Economic Sentiment Index
- Canada Housing Starts
- Canada Inflation Rate
- US Retail Sales
- US Industrial Production
Wednesday, Oct 18th ?????
- China GDP Growth Rate
- China Industrial Production
- China Retail Sales
- UK Inflation Rate
- EU Inflation Rate
- US Building Permits
- Japan Balance of Trade
- Australia Unemployment Rate
- US Philadelphia Fed Manufacturing Index
- US Existing Home Sales
- US FED Chair Powell Speech
- Japan Inflation Rate
- UK Retail Sales
- Canada Retail Sales
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