Euro

For firms buying from suppliers in Europe, the rise of the Euro this year must have caused acute problems. Or, for those with contracts buying from European suppliers in dollars, those contracts will adjust sharply come renegotiation, as current exchange rates are applied to new contracts.

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The future direction of the world’s second-most-widely-used currency is of interest to many firms that directly or indirectly are a part of extended global supply chains.

Europe, too, is perplexed by the rise of the Euro. The dollar has declined relative to the Euro by more than 13% this year, driven by tensions with North Korea and dysfunction in Washington, according to The New York Times.

But investor appetite for the Euro has been fueled by more than tensions over North Korea.

Whereas the Euro is seen as a relative safe haven compared to the dollar, there is also a growing realization the Trump administration may not be able to deliver on tax reforms promised during his campaign at the end of last year. As a result, the relatively better-performing European markets may offer investment opportunities not previously available.

Nations Push Back Against Quantitative Easing

Many in northern Europe — Germany, in particular — are pushing for an end to quantitative easing (QE) for fear that it is stimulating asset bubbles.

The Telegraph reported comments by Deutsche Bank chief John Cryan last week saying property prices in advanced economies had hit record levels. In the same speech, Cryan urged European policymakers to start tapering relief of the Eurozone’s €60 billion ($72 billion) per month stimulus program sooner rather than later.

On the other hand, policymakers are worried about the impact of bringing money printing to an end and postponed a decision this month because of the recent weakness of the dollar. Any firm decision to taper or cease QE would result in the Euro strengthening further, potentially choking off Europe’s nascent recovery (during which growth has returned for the first time this year since the financial crisis).

Interest Rates Still Low

Inflation remains stubbornly low. At 1.5% last month, they show little prospect of hitting the 2% target this side of 2019, The New York Times reports.

The Federal Reserve began raising interest rates at the end of 2015, but the European Central Bank (ECB) is reluctant to do anything that could undermine what it still sees as a fragile recovery.

The absence of rising headline inflation figures to create an imperative — policymakers are largely turning a blind eye to asset price inflation for the time being, preferring to sweat over the rise in the Euro.

Indeed, Jörg Krämer, the chief economist at Commerzbank in Frankfurt, said as much in a recent note to clients, saying the pace of Euro strength is driving the ECB’s QE policy right now. Commerzbank is not expecting the Euro to continue to strengthen — and they may well be right.

If investors think there is a chance Congress will support the Trump administration’s tax reform that would allow businesses like Google and Apple to repatriate profits held overseas, the exchange rate landscape would transform overnight.

Half of what has been estimated as up to $1 trillion dollars is held in currencies other than U.S. dollars, so the demand for dollars would be immense, as would the boost to the U.S. economy if funds were repatriated and invested. Of course, that is the administration’s intent; for now, Washington seems in such a logjam that investors are discounting the prospects of such legislation being passed anytime soon.

The Euro, therefore, is being carried by its own relatively optimistic narrative: decent growth, low inflation and a sense of stability and, Brexit excepted, harmony not seen since the financial crisis. It’s hard to see the Euro weakening this year, but further direction may come in next month’s meeting of the ECB.

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MetalMiner is expecting any decision to taper QE to be kicked further down the road, putting a lid on further rises.

Euro strength is today’s problem, asset prices are tomorrow’s — that seems to be the order of the day.

The U.S. dollar got a boost after the presidential election as markets were encouraged by prospects of lower taxes, fiscal stimulus and deregulation that would accelerate growth of the American economy.

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But this month, the dollar has fallen sharply, hitting a seven-month low. A weaker dollar gave some relief to depressing commodity markets.

Commodity index (in black) rises as Dollar index (in green) falls. Source: MetalMiner analysis of stockcharts.com

Why then is the dollar losing its luster now?

First, the dollar had steadily risen for three consecutive months. It’s not uncommon to see profit-taking after such an increase. But there are also some fundamental reasons behind this sell-off.

Selling intensified after the recent political turmoil around President Donald Trump as investors worry over political stability in the U.S. Investors also worry that under these political turbulences, the Trump administration will struggle to implement the pro-growth initiatives that markets had taken for granted. Finally, the euro appreciated against the dollar as political risks in Europe eased following the French elections.

Can This Decline Be Reversed?

US Dollar Index could bounce back up soon. Source: MetalMiner analysis of stockcharts.com data

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It’s not the first time, but the United States of America and Europe seem to be heading in opposite directions.

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In this case, it’s their currencies that are going opposite directions. The U.S. dollar’s rise and the euro’s fall are being driven by policies and perceptions of what those policies mean for growth and prosperity next year. The big questions for firms with business interests in both camps is does this mean we could see parity between the dollar and euro next year?

Source Analysis UK Ltd

Source: Analysis UK Ltd.

The euro was last at parity with the dollar in late 2002, but the first half of the decade saw expectations for strong growth in Europe after the financial crisis followed by a flight to safety that maintained a relatively strong euro relative to other currencies.

How the US Dollar Got its Groove Back

While the recovery of the U.S. economy has been somewhat unspectacular, it has at least been steady and heading in the right direction for the last few years. Europe, on the other hand, has been plagued with banking fears, political unrest and slow if not stagnant growth. Read more

Last Thursday was a big day in currency markets. The dollar fell sharply against other currencies while the euro saw its value rise.

Dollar Index falls on ECB and Fed talks

The US Dollar Index falls on ECB and Fed talks. Source: @StockCharts.com.

The European Central Bank disappointed investors after presenting a package of stimulus measures smaller than expected. The ECB surprised the market as many expected the central bank to bring stronger stimulus measures, including a larger cut to the deposit rate which was cut only by 10 basis points to 0.3%, quite a smaller cut than what most investors expected.

On top of the disappointing stimulus measures, the Federal Reserve said that rate increases will come but they are likely to follow a gradual path.

The Fed sees a strong dollar and low inflation as contributing factors to proceed gradually on rate hikes. Therefore, although a rate hike is still expected in December, the diverging monetary policy between the US and Europe seems to have narrowed after the talks.

In theory, higher borrowing costs domestically make the dollar more attractive to investors seeking yields than other currencies. Based on how markets reacted on Thursday, investors might have lost a bit of enthusiasm on the dollar after the Fed and ECB talks, which could throw some cold water on the dollar’s current bull market giving some short-term support to metal prices.

What This Means For Metal Buyers

So far, this is only a one-day decline and buyers need to focus on the big picture. Longer term, things are still pointing to a strong dollar and depressed commodity prices. A smaller stimulus by the ECB doesn’t seem to be enough to stop the dollar from rising as we move forward, but it is something to keep an eye on.

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We may all think we are headed into the sunny uplands of growth and prosperity, but this year could see more volatility than we bargained for.

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One area of concern is governments’ monetary policies and the impact they have on foreign exchange rates. Low energy costs, low inflation and cheap imports on the back of slowing emerging market growth and the strong dollar have made us feel as if things are finally going our way. Not to pour cold water on a number of encouraging trends, but that strong dollar is already causing problems and those problems will get worse.

Source: Daily FX

Source: Daily FX

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Some countries in Europe already have negative interest rates, Denmark and Switzerland’s are at -0.5% and -0.75% respectively, charging clients for the pleasure of holding their money, in an effort to stave of safe-haven status vs the euro.

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Royal Bank of Scotland Research is not predicting base rates in euro-land or Japan to rise from 0.1% in 2015 or 2016, and in the UK they are predicted to only rise from 0.5 to 1.0% next year. That is a reflection of an almost deflationary environment and such weak growth that the risks to inflation are non-existent.

Source: RBS Bank

Source: RBS Bank

Chinese rates are predicted to fall from 6% last year to 5.6% this year and 5.3% in 2016. Likewise, India, which could fall to 7% this year from 7.8% last year, will likely only rise to 7.3% in 2016.

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After taking a 4-weak break in February, the US dollar has restarted its ascent, skyrocketing again in March. The index recently hit a new multi-year high.

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Meanwhile, the Euro has fallen to its lowest level in more than a decade. Continued friction between Greece and its EU and IMF creditors and sluggish economies are all impacting the Euro.

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We have briefly covered Greece’s decision to vote in the far left “anti-austerity” Syriza party in posts this week, mentioning the short-term impact it has had on copper and gold prices.

Don’t miss this free download of our Monthly MMI® Report, covering price trends in 10 metals markets.

In truth, though, the outcome of the election had been largely priced into both commodity prices and foreign exchange rates, so although the euro weakened on the news it has not crashed. Switzerland’s removal of the Franc’s peg to the euro had more impact and the European Central Bank’s annnouncement of a quantitative easing program was equally disruptive. But Syriza’s election and formation of the government with the help of the far-right Independent Greeks party will certainly start a period of considerable volatility in European markets as negotiations are conducted in the glare of publicity, and no doubt behind closed doors, about Greece’s future in the European single currency.

The new Greek government has started positioning itself ahead of negotiations with Greece’s creditors and some would argue they have nothing to lose. There are many voices urging Greece to simply default on everything, leave the Euro and launch a new devalued Drachma but that is clearly the nuclear option and will be held as an unspoken threat during negotiations.

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This is part two of an examination of the political and economic ramifications of the election of Greece’s far-left Syriza party. Read part one if you missed it.

Any failure to meet austerity commitments to the European Central Bank, International Monetary Fund and European Commission next month by Greece will see the next tranche of loans not being paid by the troika of at the end of February. As liquidity from the ECB to Greece’s banks dries up, a banking crisis will ensue.

Not surprisingly, private money is already heading for the door, some €8 billion of deposits have been pulled since November when the election was called. So, who will blink first? Syriza or the troika?

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It is clear voters in Germany, Finland and the Netherlands, do not want their taxes used to underwrite a blank check for countries that get into financial trouble.

“Ultimately, this is a clash of democracies, rather than a clash of ideas,” Mats Persson, director of Open Europe, a research organization in London is quoted by the New York Times as saying. “Voters in Germany and Greece want very different things.”

More than that, he adds this understatement: “Germans and Greeks have fundamentally different views on how to run an economy.” Don’t they just. But you can see the Germans’ point of view. Of all the bailout money provided to Greece, Germany has been the largest contributor.  Their contribution is all in the form of loans that have not yet fallen due.

If Greece defaults, the German taxpayer will largely foot the bill. Nor does the European Union want to set a precedent by allowing Greece to renegotiate its position and end the austerity drive but maintain the bailout funding. The risk of contagion, not for an exit but for a renegotiation, is high. In Spain Podemos, a party similar or at least highly sympathetic to Syriza, leads the opinion polls and national elections are due next year. Germany really can’t afford for a major relaxation of rules for repayment or the drive to collect more taxes and balance the books. As they see it, if they let Greece off the hook Spain could be next, then Italy and you can bet France would be right behind.

So, we are set for a clash of ideologies, and at the moment neither side has given the slightest hint they intend to back down. Inevitably that is going to cause considerable foreign exchange, stock market and, by association, commodity volatility, particularly in Europe. Banks across the region will be seen to be at risk, some of whom have been major players in commodity financing. If they cut their risk profile to shore up their positions they may well start with commodity financing. Syriza has won an important victory, but a new chapter of European instability is only just beginning.

The new year in metals has already been marked by steep dives in commodity prices, and major changes in the status quo, so why should week three be any different?

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But this week’s story wasn’t about falling commodity prices or the price of oil and how it’s dragging its commodity brethren down. It was, instead, the week of central banking reaction and currency coming back to the fore. Sit back for MetalMiner‘s money market manipulation maelstrom.

Kneel Before the US Dollar!

Lead Forecasting Analyst Raul De Frutos wrote about how the dollar is going nowhere but up and the dollar index just hit an amazing 11-year high this week. Commodities, in turn, hit their lowest levels since 2009, but that’s old news by now. The bigger takeaway was that foreign currencies are now depreciating heavily against the strong dollar.

US Dollar Index since 2000

US Dollar Index since 2000. Source: MetalMiner.

How governments react to their falling currencies could cause major shifts in commodity prices. So, how ARE those governments and central banks responding?

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