A slight recalibration

Today's news headlines:​​​​​​

• “No-deal Brexit could bring near-zero rates - BoE's Vlieghe”. The Bank of England may need to cut interest rates to almost zero in the case of a no-deal Brexit. Gertjan Vlieghe also stated that a rate cut could be necessary with repeated Brexit delays. The path of interest rates would also depend on the global economy recovering from its slowdown. (Reuters)
• “Trump’s Iran policy ‘diplomatic vandalism’, leaked UK cables say”. Donald Trump pulled the US out of a nuclear deal with Iran to spite predecessor Barack Obama, per leaked correspondence from Britain’s outgoing ambassador, Kim Darroch. Sir Kim was forced to resign as ambassador last week over a batch of leaked cables describing the Trump administration as “inept” and “incompetent”. (Financial Times)

Relief from China

This parched market is in desperate need of good news and Chinese data from last night might hold a clue to improving underlying growth prospects. Signs of a global economic slowdown have been evident in data across the globe, forcing central banks to consider policy intervention to help ease conditions. The slowdown is partly attributed to the ongoing US-China trade war consisting of ‘tit-for-tat’ tariffs threats and decreased trade certainty.

The latest batch of Chinese economic data shows signs of this tension, but also provides evidence that the slowdown may already be behind us. China’s economic growth reached its slowest pace since the early 1990’s in the second quarter of 2019. This backward-looking measure is hardly surprising but focusing on June’s 1% above-expectation industrial production and retail sales is in order. These leading indicators of economic growth suggest recent measures taken by the government and the central bank are successfully filtering through the economy. While the data points to a pick-up in Chinese growth which, if sustained, will likely spread to key dependants of Chinese industry (ahem…Germany). That said, the ongoing trade war will continue to weigh on global growth and undermine the gains attained by cunning Chinese economic husbandry.

Bottom Line: Continued impressive Chinese data could trigger an unwinding of the global bond rally and dollar strength that has occurred since the slowdown began. Of course, such a shift in investor appetite is conditional on China’s gains permeating through the global economy. In conjunction with central bank monetary easing, this improvement may induce a repricing in assets over the remainder of the year.

The currency shell game

While most people would accept Trump’s currency war accusations at face value, his focus on the beggar-thy-neighbour policies is erecting needless obstacles to trade progress. The president has often derided China and other nations for unfairly devaluing their currencies to gain a trade advantage against the US. There is a shred of legitimacy to some of this accusation – according to Joe Gagnon, Senior Fellow at the Peterson Institute, who believes Norway is probably manipulating its currency – but it is mostly an outdated view. In fact, the Chinese Renminbi has appreciated about 20% from its dollar peg of the 1995 – 2005 epoch and considered by most market practitioners to close to fair value. 

The problem with this line of argument isn’t the veracity of the president’s statements, but rather that there isn’t anything to win once all is said and done. The US Treasury Exchange Stabilisation Fund, made up of $105bn worth of currency reserves, can be employed to devalue the dollar by holding foreign currencies. However, Joe Gagnon has argued the fund would most likely need to increase 5-fold for this policy to bear fruit. Even then, its effect would be diminished by almost certain reciprocal policies of other G10 nations.

Trump’s focus should remain on trade negotiations and meaningful progress, not adding fresh impediments to an already tense relationship. As these views gain some traction in popular press, the potential for interruption of trade grows.

Bottom line: Jerome Powell’s testimony before congress has laid bare concerns over global growth, but much of that was ascribed to trade uncertainty. This narrative makes resolution of trade concerns less likely and suggests dollar strength is limited on the topside.

GBP/USD

Dollar continued to sell-off on Friday and cede some ground to Sterling. For its part the Pound seems to be receiving some support, despite intensification of political concerns out of the race for number 10. This morning’s Chinese data has set a more positive tone to markets, but we are firmly focused on the Empire State Manufacturing Index released at 13:30 GMT.

EUR/USD

Dollar depreciation is providing some upward momentum for the pair. Little of this is Euro based, where the Bloomberg Euro Index shows stagnation at the 100-day moving average towards the bottom of the currency’s value.

GBP/EUR

Very little movement from Sterling or Euro means little volatility on this pair. Nothing on the economic calendar is expected to shift this balance; Dollar is firmly in the driver’s seat with Euro trading opposite.