EURUSD closed around 1.1339 in the US session Thursday, ticked up +0.02%, but it slips from the session high of 1.1366 on mixed ECB talks, high probability of renewed TLTRO, a deluge of soft economic data and lingering Brexit uncertainty. Overall, EURUSD slumped almost -0.95% in February (till date), while for the week it gained around +0.39% after plunging almost -1.41% in the last two weeks. EURUSD made a low of 1.1235 in February, almost at the November low of 1.1215.
EURUSD is getting some support this week on hopes of soft orderly Brexit after the Spanish Foreign Minister said in an interview on late Wednesday “the Brexit accord is being hammered out”. A soft Brexit is positive for the UK trade savvy German market and also for the overall EU and EUR as many European banks are also deeply involved with the British financial system.
EUR is already under stress on slowing Eurozone economy, primarily on US-China trade war jitters and Trump’s bellicose trade policies. And the increasing EU political headwinds (Brexit, Frexit, Italexit and also Germany’s own political issues) are also affecting the common currency, the Eurozone now almost at technical recession from a “bright spot” in the global economy in 2017.
The key risks to the EU economy are now Trump’s trade protectionism and increasing Euroscepticism like Brexit, France’s Yellow-Vests protests/Frexit, Italy’s daily warning about Italexit, Political instability in Spain-Catalexit—the list is long. Another problem for the Eurozone stability is too much austerity for the sake of fiscal discipline. When countries like Italy, France, and Spain are trying to stimulate the economy by some fiscal stimulus amid a slowing economy, higher unemployment rate, the EU is not ready to allow that, causing for further Euroscepticism and a sense of economic dependence to the EU (Germany), the main reason behind today’s Brexit.
The ECB also acknowledged in its latest policy meeting minutes that the risk largely external but there were pass-through and spillovers. The ECB noted that “a stronger case could now be made for assessing the risks as having moved to the downside. In large measure, downside risks could be attributed to external environments including heightened (trade) protectionism and Brexit. But there was pass-through and spillovers to domestic demand”.
The ECB also acknowledged that “slowdown in euro area growth appeared to be deeper and more broad-based than previously anticipated. And, negative developments had become more widespread across the euro area and risked affecting several components of demand. The slowdown has previously been related primarily to trade. But private consumption growth was weaker in Q3, and employment growth decelerated. And if exports and consumption were both weaker, this was likely to be transmitted to investment in the period ahead”.
Overall, ECB members concurred with the view that the risks to the Euro area outlook had moved to the downside on account of the persistence of uncertainties related to geopolitical factors and the threat of protectionism, vulnerabilities in emerging markets and financial market volatility. The outlook for the economy would be reassessed in more depth in March meeting when the new ECB staff projections would be available.
Talking about Eurozone economic data, the German manufacturing PMI for February was flashed into deeper contraction to 47.6 from a prior reading of 49.7 sequentially, lower than the expectations of 50.00 and the lowest in 74-months.
The German service PMI for February surged to 55.1 from prior 53.0 sequentially, higher than the expectations of 52.8. The German composite PMI for February was flashed as 52.7 from prior 52.1 sequentially, higher than the estimate of 52.00. But the market is more concerned about Germany’s slumping manufacturing PMI, being the manufacturing and export powerhouse of the Eurozone.
The steady rise in the German service PMI around 53.0 for the last few months may be a function of Brexit uncertainty as many of the UK’s service industry, business firms, especially banks & financials are shifting to Frankfurt (Germany). Overall, the German, as-well-as the Eurozone service PMI is growing at the cost of British service PMI, but the Eurozone service sector growth may be also limited in the coming months. Germany is now a victim of US-China trade war, US-EU/German auto trade tensions and also Brexit as Germany is a large trading partner (exporter) to both China and the UK.
The Eurozone manufacturing PMI for February also slips below the boom/bust line of 50.0 (preliminary data) to 49.2 from prior 50.5 sequentially, lower than the expectations of 50.3 and the lowest in last 69-months. The Eurozone service PMI jumped to 52.3 from prior 51.2 sequentially, higher than the expectations of 51.5. The Eurozone composite PMI subsequently edged up to 51.4 in February from prior 51.0, higher than the expectations of 51.1.
Commenting on the flash PMI data, Markit said, “the Eurozone economy remains close to stagnation” (if not recession)-“the Eurozone may grow 0.1% in Q2, Germany 0.2% and France to stagnate”, not a very pretty picture. The soft Eurozone industrial production, GDP growth and horrible German GDP growth for Q4 may be indicating that the Eurozone economy is already in stagnation.
“The Eurozone economy remained close to stagnation in February. The flash PMI lifted only slightly higher during the month, continuing to indicate one of the weakest rates of expansion since 2014. The survey data suggest that GDP may struggle to rise by much more than 0.1% in the first quarter. Germany is on course to grow by 0.2%, buoyed by its service sector, but France looks set to stagnate or even contract very slightly”.
“The rest of the region is meanwhile suffering its worst spell since late- 2013, with growth having slipped closer to stalling in February. Some uplift was also seen as companies stepped up preparations ahead of Brexit and disruptions from the ‘yellow vest’ protests in France eased. However, the general picture remained one of a more subdued business environment than seen throughout much of last year”.
“Weaker order books were linked to a combination of intensifying headwinds and concerns, including global trade protectionism worries, Brexit, the downturn of the auto sector, increased political uncertainty and anxieties regarding the broader economic outlook. Rising risk aversion has consequently dampened demand, investment, and spending. The weakness is being led by manufacturing, which has now entered its first downturn since mid- 2013. With factory order books deteriorating at an increased rate, the rate of contraction in the goods-producing sector will likely worsen in coming months”.
“Solid domestic demand in many countries, notably Germany, continued to help support service sector growth and offset the downturn of the manufacturing sector. However, the overall rate of service sector growth remained relatively moribund compared to that seen throughout much of last year. Price pressures have meanwhile continued to ease alongside the more subdued demand environment”.
For Germany, Markit noted:
“Germany’s manufacturing and service sectors remain on very different paths, according to February’s flash PMI data. While strong fundamentals in the domestic market are driving growth in services business activity, falling exports continue to weigh on the performance of the manufacturing sector. Measured overall, the data remain indicative of a very modest rate of underlying output growth”.
“The manufacturing PMI fell further into contractionary territory in February to its lowest in over six years, with sustained robust job creation at factories the only positive takeaway. The strength in employment is perhaps surprising given the order book situation and lack of pressures on capacity, but goods producers are seemingly looking through the current soft patch in demand”.
“In terms of the factors behind the slowdown in manufacturing order books, many of the usual suspects – the uncertainty relating to US-China trade tensions and weakness in the autos industry – were highlighted, although there were also reports of growing competitive pressures within Europe”.
Meanwhile, in France, the manufacturing PMI inched up to 51.4 in February, up from 51.2, above expectation of 51.0. The French service PMI jumped to 49.8, up from 47.8, above expectation of 49.1. And the French composite PMI composite also improved to 49.9, up from 48.2 and higher than the expectations of 49.0 as the “yellow vests” protests subsidized to some extent.
Commenting on the French Flash PMI data, Markit said:
“February flash data pointed to a broad-stabilization in output at private sector firms in France, offering relatively positive news after the weak performances of December and January. Although the ‘gilets Jaunes’ protests are still ongoing and panelists have suggested that these are still causing disruption, the economy showed resilience in the latest survey period. Encouragingly, the rate of job creation accelerated and new orders declined only marginally, arresting the downward momentum seen over the past couple of months”.
“That said, the economy will continue to post below its potential as long as social unrest continues. And amid the current uncertainty in the global economy, domestic issues weighing on activity are likely to remain detrimental”.
On Wednesday, data shows that Germany’s PPI grew at +0.4% in January from prior contraction of -0.4% sequentially, higher than the expectations of -0.2%.
On Tuesday, Germany’s ZEW economic sentiment for February improved to -13.4 from prior -15.0, stronger than the expectations of -14.1. But the German ZEW current conditions slumped to 15.0 in February from prior 27.6, much weaker than the expectations of 23.0. The Eurozone ZEW economic sentiment improved to -16.6 in February from prior -20.9, stronger than the expectations of -18.2. The Eurozone current conditions index dropped -8.3 to -3 in February. Overall, despite the improvement in German ZEW sentiment, it stayed negative well into negative and also well below the long-term average of 22.4.
ZEW commented: “At the moment, we do not expect a rapid recovery of the slowing German economy. The economic situation in Germany has been weak, especially in the manufacturing sector. The figures for industrial production have once again seen a decrease, incoming orders are stagnant and foreign trade currently provides no fresh impulses. All of this is reflected in the fact that the assessment of the current situation has experienced a considerable decline. For the next six months, the financial market experts in our survey do not expect any improvement”.
The German GDP stagnated in Q4 and grew 0.0% quarterly. But that was enough to narrowly escape a technical recession following -0.2% contraction in Q3. Over the year, the German GDP grew 0.9% in Q4 and For the whole year of 2018, GDP grew 1.5% (y/y).
The Eurozone GDP grew 0.2% sequentially in Q4, unchanged from Q3 and matched expectations. Annually, Q4 GDP grew 1.2% and over the whole year 2018, GDP grew +1.8%. Employment grew 0.3%, above expectation of 0.2% sequentially in Q4.
In ECB talks, on Monday (18th Feb), ECB Chief Economist Praet indicated that a new round of TLTRO (Targeted Long-Term Refinancing Operation) will be considered in the March meeting. He noted that banks suffering from weak profitability might cut credit to the real economy due to recent slowdown. And new TLTRO could be a handy insurance policy should uncertainty feeds into businesses.
But Praet also indicated that the new TLTRO may not be as generous as the previous LTRO, which was offered at 0% interest rate. Banks could even earn as much as 0.4% on the LTRO if they lend it on to business and households. As a pointer, Banks, particularly in Italy and Spain, face immense risk as the ECB’s EUR 739B previous LTRO approaches repayment dates in 2020-21. Thus there may be no option, but to roll over the previous LTRO through an issuance of new one, making it almost perpetual. The LTRO is one form of QQE and it now seems that ECB will have to stick to it. Subsequently, EUR slumped as Praet, a known ECB dove sounds also like an “uber dove”.
Praet said: “The discussion will come very soon in the Governing Council, but it doesn’t mean we’ll make decisions … at that time. The parameters of any new loans will involve complicated discussions as it depends on the amount of stimulus you want to bring or not to bring”.
In line with the increasing tune of QE or end of QT by global central banks amid synchronized contraction/slowdown, Praet said: “If the euro-area economy were to slow more sharply, we could adapt our forward guidance on interest rates and this could be complemented by other measures. But one thing is clear: the ECB’s Governing Council will always find ways and means of acting if it needs to. The more time passes, the greater their likely negative impact on the economy. It is high time to put an end to these uncertainties in a positive way”.
Regarding, any rebound in Eurozone economic activity, Praet said: “It’s too early to say by how much, but TLTROs have been a very useful tool to deal with impairments in the transmission of monetary policy”.
On 15th Feb, last Friday, ECB board member Coeure said the ECB was discussing the idea of issuing new LTRO to bank Coeure said a new TLTRO was possible and there might be scope for it but such an operation should serve “a purpose”, likely meaning it should help the ECB achieve its inflation target rather than simply helping banks. Coeure added “It is possible, we are discussing it,” Coe. But we want to be sure that it serves a...purpose.” He later clarified: “There might be scope for another TLTRO”. Coeure, a known ECB hawk, now increasingly looking like a dove/owl (neutral) as he may replace Draghi.
Coeure, also seen as one of Draghi’s possible successors when the latter’s term runs out on Oct 31, added that the Eurozone’s recent economic slowdown is more pronounced than earlier expected, suggesting that the path of inflation will also be more shallow.
On 8th Feb, Coeure said quite contradictory that the Eurozone is not in a lasting and serious slowdown, but just broader and longer than earlier thought. Coeure said: “The Eurozone is facing a broader and longer slowdown, but not a lasting and serious one. And he’s confident that ECB has existing and new tools to fight a slowdown. We don’t think that we have enough elements to conclude that we’re facing a lasting and serious slowdown of the Eurozone economy. What we’re seeing now is that the slowdown may be broader and longer-lasting than originally forecast”.
On Tuesday (12th Feb), the ECB Vice President Guindos said: “Policymakers are currently analyzing the causes of the economic slowdown in Europe, some of which are temporary. And we will not take a decision until we have conducted a thorough analysis. And, regarding inflation, even if energy prices were to fall a little in the coming months, we are confident that inflation will, over the medium term, converge towards our aim of below but close to, 2%”. As a reminder, the Eurozone annualized core inflation unexpectedly ‘surged’ to +1.1% in January from +1.0% in December.
On no-deal Brexit, Guindos said, “a disorderly Brexit would represent a significant macroeconomic shock at a time when the European economy is already weakened”.
On 11th Feb, Guindos also sounded confident in his comments on inflation. He said: “Wage growth has become increasingly broad-based in recent years. And, this, together with our monetary policy measures and the ongoing economic expansion, is expected to translate into higher underlying inflation over the medium term”. Overall, Guindos sounds less dovish than some of his colleagues.
On 12th February, ECB’s Knot said ‘wait-and-watch’ attitude is probably the optimal stance at this point. The ECB Governing Council member Knot said: “There is no need to raise interest rates before more sign of inflation pickup to target. We will have to be patient and also, in my view, modest with respect to the precise moment at which we can expect inflation to converge toward our medium-term objective. And, at this moment, a “wait-and-see attitude is probably the optimal attitude”.
Knot also tried to play down recession risk despite AN economic slowdown. He said, “the current situation might last a few quarters, but I’m still positive that afterward growth will return to levels slightly above potential again”. Overall Knot looks optimistic and less dovish.
On the same day, ECB’s Weidmann said: “acting beyond mandate will undermine trust in ECB”. Weidmann, the BUBA (Bundesbank) President and a potential successor of Draghi warned that the Eurozone is still not crisis-proof. He also pointed out that “certain issues like the lack of credibility of fiscal rules or the harmful sovereign-bank nexus still have to be adequately addressed. At the same time, fighting crises could force unelected ECB bankers to take political positions that are beyond its mandate. And, acting beyond the mandate would also undermine people’s trust in the central bank”. Weidmann added, “At the end of the day, it could become more and more difficult for the European Central Bank to focus on its promise of a stable currency”. As usual, Weidmann sounds like a hawk.
But on Wednesday Praet virtually poured cold water on an immediate TLTRO and said: “ECB not necessarily will take a decision on TLTRO in next meeting”. Praet also clarified: “Normalization of central bank instruments is not akin to policy tightening. I expect key rates to remain at present levels through the summer of 2019, while the Eurozone outlook may be changing more fundamentally”. Subsequently, EUR got some support.
In any way, although, almost all the ECB policymakers are talking publicly about the old forward guidance of 1st rate hike (+0.10%) in Sep’19 (after summer/August’19), the market is pricing the 1st rate hike until at least Q2-2020 (June). But the problem is, by then (Dec’19), the Fed will complete their current rate hiking cycle and will prepare the market for the next cycle of rate cuts (economic recession/slowdown). The Fed may also end its QT (B/S tapering) by H2-2020. Under such a scenario, where the Fed could be in dovish mode, will the ECB keep a brave face and goes on hiking? If not, then how could ECB fight the next cycle of recession without going into NIRP? Probably, ECB jawboning is now the only effective weapon.
Technically, whatever may be the narrative, EURUSD has to sustain above 1.13900-1.14100* for a further rally to 1.14300/1.14600-1.15050*/1.15700 and 1.16200/1.16800-1.17100/1.17500 in the near term (under bullish case scenario).
On the flip side, sustain below 1.13800, EURUSD may fall to 1.13200*/1.13000-1.12400/1.12100* and 1.11900/1.11100-1.10100/1.09800 in the near term (under bear case scenario).
Pivot: 1.139 Support: 1.132 1.13 1.124 Resistance: 1.141 1.143 1.146 Scenario 1: Strong above 1.13900-1.14100* and sustaining above 1.14300/1.14600-1.15050*/1.15700, EURUSD may further surge to 1.16200/1.16800-1.17100/1.17500 in the near term Scenario 2: Weak below 1.13800 and sustaining below 1.13200*/1.13000-1.12400/1.12100* ,EURUSD may further fall to 1.11900/1.11100-1.10100/1.09800 in the near term Comment: SHORT TERM RANGE: 1.11200-1.14100