Credit Agricole

Weekly FX Outlook

USD: In the near term, the USD should remain supported by the relative outperformance of the US economy that will allow the Fed to normalise policy more quickly. The USD should further benefit from its role as a liquid safe-haven currency during recurrent bouts of risk aversion. Medium term, we expect the US economic outperformance to become less pronounced and the Fed to embark on gradual policy normalisation, which could keep US real rates and yields negative. This, coupled with central bank tightening outside of the US, could encourage diversification flows out of the USD, especially given lingering concerns about the US twin deficits and the USD’s overvaluation

EUR: The war in Ukraine has fanned stagflation headwinds in the Eurozone and should continue to complicate the ECB’s plans for policy normalisation and weigh on the EUR across the board. It will further have lasting consequences for the Eurozone’s international competitiveness, external position, relative real yields and commodity terms of trade. Our analysis based on our long-term fair value model G10 VALFeX suggests the long-term EUR/USD value can drop to 1.1130 from 1.1950 at present and thus signals a much less constructive FX outlook. Many negatives seem to be in the price of EUR/USD and its outlook in the coming months could stabilise in part thanks to the repatriation of funds held abroad into the Eurozone to fund the growing domestic outlays. We also think that the overhang of EUR[1]shorts in the markets can help the single currency benefit from future bouts of risk aversion especially as its rate disadvantage is diminished by the ECB’s policy normalisation.

GBP: The GBP could remain an attractive stagflation and risk aversion hedge for now. Soaring energy costs, labour market shortages, global supply chain disruptions and persistent Brexit-related headwinds continue to plague the UK economic recovery and thus complicate the BoE’s ability to normalise in the face of uncomfortably high inflation. This could keep UK real rates and yields very negative and weigh on the GBP in the near term. In the longer term, the undervalued GBP may recover as UK growth hurdles ease and this allows the BoE to hike rates more aggressively. That said, the war in Ukraine as well as idiosyncratic risks related to Brexit or a potential indyref2.0 should make the UK’s economic recovery much less robust than we expected previously.

JPY: Going forward, we believe the threat of and any actual FX intervention as well as further UST yield curve inversion will constrain USD/JPY upside. We are not confident in a speedy resolution to the Ukraine crisis, however, and so higher oil prices will remain a weight on the JPY along with Haruhiko Kuroda’s dogged adherence to the BoJ’s YCC. A gradual changing of the BoJ Board’s make-up will start in July when new members will potentially open the discussion of the adjustment of YCC, however.

AUD: While the start to RBA rate hikes is a positive for the AUD, we think the AUD will struggle to move higher against the USD. The RBA is being outgunned by the FOMC and while China is pledging support for its economy including looser fiscal policy and a big infrastructure spend up, it will take longer than usual for this to give the economy a boost while the government pursues its zero-Covid strategy and lockdowns.

NZD: While the RBNZ is being forced to hike rates aggressively by strong inflation, the negative terms-of-trade shock from the Ukraine crisis, weakening Chinese growth as well as rate hikes are weighing on the local economy. These factors will curtail NZD appreciation due to a hawkish RBNZ.