US-China trade deal optimism lifts Dollar

Today's news headlines:

  • 'Bets on U.S. rate cut grow after Fed's dovish shift’. Earlier talk had been hinting at a Federal Reserve rate hike towards the end of the year, but following Wednesday’s statement, the market is now suggesting a 30% chance that rates will fall in the next year. (Reuters)
  • 'U.K. lays ground for Brexit delay as parliament holiday cancelled’. Despite repeated claims from Brussels that the Brexit deal isn’t up for renegotiation, the idea of an 11th-hour compromise being reached, but requiring legislation to be passed quickly, is gaining traction. (Bloomberg)
  • 'Italy GDP falls 0.2% in Q4 2018, throwing economy into recession’. Yesterday's broader Eurozone GDP print was in line with expectations, but data from Italy confirmed the country was in recession, with questions now being asked over the populist government’s anti-austerity agenda. (CNBC)

The last few days have seen a slew of economic and geopolitical developments which collectively have served to exaggerate volatility across the major currencies. Brexit uncertainty has been dragging on the Pound while confirmation that Italy has slipped into technical recession by posting a second consecutive quarter of economic contraction ended up weighing on the Euro. In the US, a message of caution from the Federal Reserve over the timing of the next interest rate hike pushed the US Dollar lower, but hopes that a way ahead could be found in resolving the trade war with China has been sufficient to provide at least a degree of broad-based support for the currency, reversing earlier losses.

Donald Trump invoked a series of retaliatory tariffs on imports which started to come into effect around a year ago. These stemmed from core election promises he had made and were designed to bolster key aspects of the domestic economy such as manufacturing and farming, as part of the ‘Make America Great Again’ campaign. Although impacting imports from across the globe, China has found itself in the cross-hairs of the dispute amid allegations of US intellectual property theft. With tariffs against China set to increase again on March 1st, pressure has been building for the two sides to find a compromise and the latest set of talks which took place this week have been seen as productive.

However, the tariffs haven’t proved to be all that popular with many of Donald Trump’s supporters. For example, China retaliated with levies on the import of US soybeans, the largest agricultural export across the Pacific, leading to government subsidies having to be paid to US farmers to keep them in business. There have been informal boycotts of US products by Chinese consumers, too. This has all helped put the brakes on Chinese growth, with the economy now reported to be expanding at its slowest rate in 30 years. At the start of the year, Apple noted that demand for its iPhones was falling thanks in part to weak Chinese demand, hitting the company’s share price. The tariffs haven’t been the one-way bet some may have hoped for.

Resolving the trans-Pacific trade war is therefore seen as critical in supporting not only the US economy but also broader economic growth. There’s more to be done, but this week’s developments appear to be a step in the right direction with China pledging to buy more soybeans from the US. Further talks are scheduled for later in the month and assuming these can be resolved, the outcome is likely to be seen as what the market terms ‘risk-on’. That’s typically where demand switches away from classic safe-haven currencies such as the US Dollar or Japanese Yen and instead shifts towards the likes of the emerging markets. Failure to find a way ahead this month will, therefore, have the potential to see the US Dollar strengthen as a result.

GBP/USD

The Pound remains on the back foot amidst Brexit uncertainty, although it’s still holding onto some of the gains against the Dollar following the cautious note from the Federal Reserve earlier in the week.

EUR/USD

The Euro was rattled yesterday by the confirmation Italy had moved into recession, reversing most of the gains seen off the back of the Federal Reserve’s statement.   

GBP/EUR

The Pound made modest gains after the release of Eurozone growth data, but further upside is being limited by the lack of clarity over whether a Brexit compromise can be reached.