Westpac: US dollar to keep rising

Via Westpac:

Through both ‘risk-on’ and ‘risk-off’ episodes this year, the US dollar trend has remained upward sloping with the US seen as both the best-performing developed market and a yielding ‘safe-haven’ amid global uncertainty. Despite President Trump’s actions this month, to our mind, this US dollar trend is set to extend into 2020.

From 96.7 at the time of our July Market Outlook, the US dollar peaked at 98.5 and has since settled around 97.5. This is despite the market’s view on the end-2019 federal funds rate shifting down from 1.73% at July to 1.49%, and the current 10-year yield falling from 1.95% to 1.74%. Why has the US dollar appreciated as US interest rates have moved lower? Simply because the deterioration in expectations has been even more dramatic elsewhere.

Of greatest significance this month ahead of President Trump’s decision to impose new tariffs, EUR/USD broke through support to hit a multi-year low of USD1.1027. Whereas the FOMC described their July rate cut as a “mid-cycle adjustment”, the July ECB meeting signalled preparations for a much broader stimulus package, including asset purchases, amid an outlook mired by persistent global uncertainty and an ailing manufacturing sector.

After the new US tariffs were announced, Euro bounced back to around USD1.12, arguably in relation to European investors reversing financial outflows associated with persistent current account surpluses as they reassessed the souring global economic environment. We believe this ‘return-to-home’ dynamic will prove short lived for two reasons.

First, the past year has shown that disruption from the Sino-US trade war has had an outsized effect on Europe’s open economy versus the more-insular US – total external trade equates to 51% of GDP for the Euro Area compared to 27% in the US. Subsequently, European investors are likely to look to redeploy capital overseas again in line with relative growth fundamentals. Second, even after our forecast three cuts in the federal funds rate to 1.375% at December, US treasuries will remain a high-yielding safe-haven asset, further aiding the US dollar.

With those factors in mind, our base case is for Euro to depreciate to USD1.08 end-2019 and hold that level until at least mid-2020. Even after Euro begins to recover, only a slow drift higher is anticipated, as growth remains around trend, inflation well below target, and risks to the outlook keep the ECB on guard. At end-2020, we see Euro at only USD1.11 – below current spot.

Also aiding the US dollar trend over the coming 12 months will be ongoing turmoil in the UK. As detailed in August Market Outlook, after Boris Johnson’s succession of Theresa May as Prime Minister, the UK has a hard-line leader for Brexit negotiations with little, if any, room to negotiate a better deal than the one repeatedly voted down by UK Parliament. Another exit date extension, a general election, or worse, a no-deal exit come November are therefore growing possibilities. Suffice to say, the persistent uncertainty evident here will take a material and lasting toll on the UK’s economy. It is for this reason that we have reduced our range-low for GBP/USD to USD1.18 at September 2019, after which Sterling only lifts to USD1.26 by end-2020.

Note the above forecasts are still predicated on a deal being reached in the December quarter to nullify the threat of a no-deal Brexit. As mooted above, the risks to this view are sizeable and growing by the day. We must therefore emphasise that Sterling could find itself at a much lower level than our central forecast over the coming year, and further that the modest recovery we foresee after Brexit may not eventuate.

Turning to Asia, Japan’s Yen has recently benefited from the FOMC’s end-July cut and the tariff ‘risk-off’ move, USD/JPY falling from near JPY109 to below JPY106. Looking ahead, this is a level we expect to endure to end-2019, as global uncertainties persist and the FOMC cut the federal funds rate. Note this is in contrast to the above Euro forecast. The difference here is the Yen having greater prominence as a safe-haven, and the ECB having the determination to ease in line with the FOMC while the Bank of Japan does not. In 2020, as the Bank of Japan remains on the sidelines and global risks become less acute, USD/JPY is expected to drift higher to JPY111 by end-2020. The risk here is that global uncertainties remain heightened, the FOMC has to ease further, and hence USD/JPY holds to the low-end of the forecast range.

Finally on China’s Renminbi, the past week has shocked the market as Chinese authorities chose to allow USD/CNY to break through their prior ‘line in the sand’ at CNY7.00 following President Trump’s tariff escalation. With US/China tensions set to persist for some time, a sustained period of trading above this mark is in the offing. However, absent a further deterioration in the US/ China relationship, a material run higher in USD/CNY from current spot seems unlikely. Consequently, we look for USD/CNY to trade as high as CNY7.20 in the six months to March 2020, then move lower with the broad US dollar trend to CNY6.90 at end-2020.

Houses and Holes

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

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  1. Well, if Australia proceeds aggressively with a ban on cash and with negative interest rates, then my long term call of the AUD hitting 0.40 might turn out to be optimistic.

    In other news, as pointed out by Martin North, the IMF is proposing that countries split apart physical money (coins, notes) from electronic money, with a managed exchange rate between the two (managed by the national central bank).


    The exchange rate would decay in sync with the negative interest rate so as to eliminate the benefit of holding cash under negative rates. In other words, if you withdraw your savings from the bank as cash, then when you return later to deposit said cash it will convert into a lower amount of digital money in your bank account as the exchange rate between physical and electronic money has worsened.

    ****holes. The OECD will do this across the system so that no physical national currency will be an escape. I’ll wager than any subsequent attempt to move into precious metals or crypto will be made illegal (as it has been in the past).

    The IMF has Megabank’s back.

    Increase your debt level Commoner, do it so that we Lords can own you even more. Do it so that we can take every last thing you own in the future when, buried as you are in debt, we decide to raise rates and take your first-born as payment.

    • So what do ‘they’ do with a cash/e-money exchange rate? take down the serial numbers of the notes they give you at withdrawal time? Because unless the actual physical notes change, how else is it determined that ‘you are putting back in what you took out last year”?
      Here’s what might happen – Everyone withdraws their funds from the bank in cash; buy a safe, and never returns the notes to the banking system. Trade would be as it was in the 1800’s – all cash. Yes, there’ll be prices change against commodity ( prices fall, initially, for cash transactions to buy meat and bread) but after that’s settled down, the banks will be left with a System that no one uses. Notes and coins will exist longer than their intended shelf life – just as the do in 3rd World countries today.

      • There’s no need to record cash serial numbers. So long as there’s a transaction between physical and electronic, all that changes are quantities. The same physical notes are still used. If anyone in the trade system is making these transactions, then that person (or institution) will pass on the losses back into the physical circulation system as higher prices.

        You withdraw $500 as 10 x 50 notes. Some time later you, or whoever you trade with, deposits these notes back into the banking system. After exchange, they are credited with (net) $450 electronic money. The notes are warehoused as always. The $450 is then withdrawn as 9 x $50 notes. These are the same notes as before. The one additional note stays in storage at the bank. No need to track serial numbers or anything like that.

        If, as you suggest, the entire populace rebels, withdraws cash and never again deposits it into the banks (eliminating the ability of the exchange rate to serve its purpose), then the banks go for plan B (which is already being implemented around the OECD). This is to criminalise cash in a step-by-step manner:

        – eliminate high-denomination notes (eg, the ECB has eliminated the 500 euro note).

        – place a legal restriction on the maximum size of cash transactions (eg, 3000 euro limit in Italy, $10,000 proposed for Australia).

        – once the legal limit is in place, regularly wind it back (Australian proposal makes this easy for regulators to do)

        – limit the amount of cash that can be withdrawn each day (set to 0 in various South American crises)

        – outright ban the use of cash in any transaction (India)

        – enforce all agency payment (wages etc) as electronic money. As soon as a cash proponent wants to escape, they must immediately take a hit at exchange.

        – introduce large “conversion” fees (in the direction of converting electronic to physical)

        – eliminate physical cash as a legally recognised measure of money, sending its value to zero within the banking system.

        Even if, despite all of this, citizens continue to transact with physical cash in private trade, as they personally decide to recognise its value, it will fail over the longer term as counterfeiting ratchets up (CB can do this), and as the cash is not usable for purchasing “official” (state) goods and services or for paying taxes.

        India was a template for this plan B and it seemed to work disturbingly easily.

      • They could do it tomorrow. Look how easily the precursor policies to this have been adopted without the general masses saying a word. Elimination of cash in India, negative rates in Europe, bank bail-in policies accepted across the OECD…

        Next crisis and we take it in the face.

    • Yes, I read all that. Took about capital destruction –they haven’t really thought it through, have they.

      Oh well, we know where this ends. If they want a heinous amount of inflation, that’s exactly what they’ll get. And those interested in actual wealth preservation will simply slip away into crypto-land or precious metals or whatever else …. then what do they do?

      Politicians and policymakers have a clear death wish.

      • Yes, the problem is that people who don’t have to hold a high proportion of their wealth in the form of cash will do disproportionately well out of this: the asset rich.

        For the asset poor, for whom day-to-day / survival transactions constitute a large % of their churn in total value, this will have more of a negative effect.

        It’s just another mechanism to move wealth from the poor to the rich.

        At some point (I can’t predict when), the guillotines roll. The Lords know this of course, which is why (IMO) they’re working so hard to fuse social media data with state surveillance. They’ll be able to quash rebellions before we even know that we’re thinking about rebelling.

      • @Gavin: I thought your gig was classic cars? Could work…
        How many loaves of bread can I get for a mint condition rotary 808?

  2. Medico
    there is no ban of cash in India its only over certain amount that one cannot transact in cash same as Au