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GBP steadies after sharp Brexit-driven falls. USD extends recent gains. Attention now switches to manufacturing PMI surveys around the world.

By Nick Parsons

We warned here yesterday that “another tricky day lies ahead for the pound”. It did indeed have a very bad day on Wednesday; bottom of our one-day performance table by quite a margin, with losses ranging from -0.6% to -0.9% against the major currencies we follow closely here. GBP/USD lost one and a quarter cents to 1.3785, matching its low back on February 9th. Overnight it has moved lower still, and a move to the mid-1.37’s leaves the pound at its lowest level since January 17th.

Yesterday morning, the European Commission published a detailed draft withdrawal and transition agreement: more than 120 pages made up of 168 treaty articles and two protocols setting out the EU’s terms for Brexit to be negotiated over the next seven months. The document is politically incendiary in the UK, whose Government is a Coalition between the Conservatives and the Democratic Unionist Party in Northern Ireland. According to the draft, the territory of Northern Ireland would be considered part of the EU’s customs territory after Brexit, with checks required on goods coming in from the rest of the UK, under the text produced by the European commission. “A common regulatory area comprising the Union and the United Kingdom in respect of Northern Ireland is hereby established… The common regulatory area shall constitute an area without internal borders in which the free movement of goods is ensured and North-South cooperation protect.”

Theresa May told the House of Commons that, “No UK prime minister could ever agree to it… I will be making it crystal clear to President Juncker and others that we will never do so.” The European Union’s chief negotiator, Michel Barnier, denied that he was challenging the territorial or constitutional integrity of Britain. “This backstop will not call into question the constitutional or institutional order of the UK. We will respect that. I am not trying to provoke anyone here. I am not being arrogant in any way.” He may well be sincere in his claims, but ahead of a keynote speech from UK Prime Minister May on Friday, worries are growing that British businesses could find themselves without a transition deal to cushion their adjustment to life after Brexit. Moreover, it is by no means clear that all the PM’s own Conservative MP’s will back her vision if it comes to a vote in Westminster. No wonder the GBP is so weak.

The USD index hit 90 for the first time in 2-weeks in New York on Tuesday evening and yesterday it extended these gains, both as a result of independent concerns about the GBP and EUR and another sharp fall in US equity markets which has tended recently to offer the USD some support. The DJIA closed down 382 points whilst the S+P500 index has just suffered its worst monthly drop since at least January 2016. Overnight in Asia, the USD index has further extended its gains to 90.25 and is back to where it was before US Treasury Secretary Mnuchin’s remarks in Davos in late January. It has now rallied more than two full points from its recent low of 87.95.

Wednesday’s US economic data generally came in shy of consensus expectations. Against a median estimate of a small drop to 64.1, Chicago PMI in February dropped from 65.7 to 61.9; lower than any of the 30 economists in a Bloomberg poll had been looking for. None of the seven sub-indices (prices paid, new orders, employment etc) rose on the month and the headline was the lowest since August 2017. Elsewhere, pending home sales fell by 4.7% m/m in January and though this might be simply weather-related, there’s some talk, too, that sharply rising mortgage rates on the back of higher US bond yields might be feeding through more quickly than usual into lower housing market activity.

Whatever the case, there’s no doubt that the US economic data have been running somewhat slower than expected over the past few weeks. Citibank produce a very well-regarded “economic surprise index” (scaled from -100 to +100) and this is down from a high over 80 in late-December to just 33.5 today. The Atlanta Fed’s GDPNow model which back in late January was suggesting 5.4% for Q1 GDP has been revised notably lower and after Tuesday’s durable goods numbers, the latest estimate is just 2.6%. This will be updated later today after the release of Personal income and expenditure, the ISM Manufacturing Index, and construction spending. The USD index opens this morning in Europe around 90.00

The euro’s poor week continues. EUR/USD is down more than 2 ½ cents from Monday’s high of 1.2350 and yesterday fell on to a 1.12 ‘big figure’ for the first time since January 18th. Overnight in Asia, the pair has been stuck in a very tight trading range but has remained on 1.21 ever since the close of business in New York yesterday evening. We suggested earlier this week that “Mr. Draghi has often shown himself to be a master of market expectations… and he might well be actively trying to push the EUR lower ahead of the ECB meeting.” If he was, he’d certainly be happy with the price action over the last couple of days!

German inflation slowed more than expected to hit a 15-month low in February. Harmonised CPI rose by just 1.2% year-on-year after an increase of 1.4% in the previous month, the data showed. That was weaker than the 1.3 percent consensus estimate, the lowest reading since November 2016 and marked the third consecutive fall in the headline figure. Although the German numbers raised fears of a weaker than consensus outturn for the Eurozone CPI yesterday morning, they were no softer than expected. The rate of price growth slowed to 1.2% this month from 1.3%, dropping to its weakest since 2016. A fall in energy inflation and a big fall in fresh food inflation were the main drivers of the headline dip this month. The core measure was unchanged at 1.0%.

The softness of inflation both in Germany and the Eurozone overall help take some of the pressure off ECB President ahead of next Thursday’s Council Meeting. He said to the European Parliament this week that an expansionary policy is still warranted even as the economic situation is “improving constantly” and there’s no sense of urgency around communicating a withdrawal of monetary stimulus. Bundesbank president Jens Weidmann said in a Bloomberg Television interview that guidance on interest rates is “rather vague” and should be strengthened. “This could probably be one part of our discussion - whether to complement any decision on the asset-purchase program and on communication regarding the asset-purchase program with a bit more specificity with respect to the interest-rate guidance. ‘Well past’ is a rather vague time dimension.” The EUR opens in London this morning in the high USD1.21’s with GBP/EUR just under 1.13.

The Aussie Dollar has spent most of this week moving lower against the USD, although from Monday’s opening levels in Sydney it is up against both the EUR and GBP. The combination of lower stock markets, much lower gold prices and a pick-up in volatility is rarely good for the AUD and though yesterday it bounced a couple of times off technical support in the 0.7780-90 area, it has tumbled further overnight. The low of 0.7720 in Asia is a fresh low for 2018 and the weakest since December 27th.

The fall in the Australian Dollar comes despite a very upbeat survey on manufacturing. Today is the first day of the month and Australia is the first of more than 25 countries to be reporting Purchasing Managers’ Indices; the so-called PMI surveys. The Commonwealth Bank PMI index – a composite indicator designed to measure the performance of the manufacturing economy – edged slightly higher to 55.6 in February, from 55.4 in January, signaling a strong rate of improvement in the health of the manufacturing sector. The headline PMI has recorded above the 50.0 no-change mark in each month since the survey began in May 2016. According to CBA, “Australia’s manufacturing sector continued to improve strongly in February, supported by robust output growth and increased new business inflows. Buoyed by these trends, both business confidence and the rate of job creation reached fresh survey highs. As a result of higher staff levels, backlogs of work increased to a weaker extent. Meanwhile, strong demand led to intense pressures on supply chains, with delivery times rising”.

Also released overnight were the Q4 Capital Expenditure numbers. According to the Australian Bureau of Statistics, CAPEX fell by 0.2% to $29.57 billion in the final quarter of last year, missing forecasts for an increase of 1%. CAPEX in the September quarter of 2017 was revised up from +1.0% to show a gain of 1.9%. Despite the lower than expected headline number, total CAPEX grew by 4% over the year, the strongest increase in five years. Spending on buildings fell by 2.1% to $16.2 billion, partially offset by a 2.2% increase in investment on plant, machinery and equipment which rose to $13.4 billion. It is this last number which feeds directly into Australia’s Q4 GDP report released next week, and will therefore contribute to real GDP growth. The Australian Dollar opens this morning in the low USD77’s with GBP/AUD at 1.78. .

After the Federal Budget, the Canadian Dollar had another poor day on Wednesday. As the US Dollar caught a bid on a weaker stock market and liquidation of long positions in EUR and GBP, so USD/CAD moved up on to a 1.28 ‘big figure’ for the first time since December 20th. The pair reached a high just above 1.2830 and closed in New York within a few pips of the high of the day. Overnight in Asia, it has marginally extended these gains to the mid 1.28’s; a fresh 10-week high (CAD low).

The 2018-19 budget, presented in Ottawa on Tuesday evening, had a fiscal track largely in line with what Canadian Finance Minister Bill Morneau forecast in his last fiscal update in October. One major change is C$7.2 billion less infrastructure spending through 2019, an amount that has been allocated to other departmental spending, largely for veterans, indigenous Canadians, women and research. The economy is forecast to average growth of 2 percent between 2017 and 2022, including a 3 percent expansion in 2017 whilst forecasts for debt and the deficit are overall little changed from October’s fiscal update with deficits over the six years including 2017-18 projected to total C$98 billion. The ratio of debt to gross domestic product will drop to 28.4 percent by 2022 from 30.4 percent in 2017-18.

It’s fair to say that local reaction to the Budget has been at best mixed. The Financial Post says, “Bill Morneau may have passed up his last chance to balance Canada’s budget. Prime Minister Justin Trudeau’s finance chief released his third fiscal plan on Tuesday in circumstances that have hardly been better. Canada’s economy is near full capacity, led the Group of Seven in growth last year and unemployment recently hit a four-decade low - all of which Morneau boasts about. He couldn’t have asked for better conditions to move toward what was once his goal: balance. And yet Morneau’s budget Tuesday plots no such course.” Mr Morneau responded to criticism in a Bloomberg interview, saying, ““We’ve got a really low level of debt to our economy, we can deal with all eventualities and we’re being fiscally responsible along the way.” For the moment, currency markets have given him the thumbs-down and the Canadian Dollar opens in Europe this morning with USD/CAD in the mid-1.28’s and GBP/CAD in the high-1.76’s.

The extreme weakness of the GBP yesterday was the only thing preventing the NZD from marking a third straight day at the bottom of our one-day performance table. Indeed, it was such a gap from second-bottom to bottom that GBP/NZD actually fell almost one and a quarter cents. At one point in the day, the AUD/NZD cross was up on to a 1.08 ‘big figure’ for the first time in a little over two weeks whilst NZD/USD only just managed to hold on to US 72 cents. Overnight in Asia, the pair has traded down to a 3-week low just below 0.7190 but has subsequently clawed its way back on to a 72 cents handle.

ANZ’s job advertisement data were released earlier today. Job ads fell 1.2%m/m in February (seasonally adjusted), giving up some of its strong increase the previous month. Annual growth eased to 5.8%. There was a marked drop in job ads in the construction, utilities, manufacturing and transport sector, which comprises about a third of job ads. The analysts at ANZ said, “We are not surprised to see job ads fall back to their more modest growth trend, with the labour market tight and skilled labour in particular difficult to come by. The labour market is tight, with the unemployment rate at just 4.5%, and both surveys and anecdotes confirming that firms are having difficulty hiring the skills they need. With business confidence improving and firms profitable, workplace relations reforms and minimum wage hikes suggest we will see higher wage growth going forward.”

Tomorrow we’ll get numbers on building permits and consumer confidence and ahead of these, it will be interesting to see if the relatively sharp fall in the NZD so far this week can be followed by some consolidation at these lower levels. The Kiwi Dollar opens in London in the low-USD 72’s and just below GBP/NZD1.91.