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A war of words on currencies as ECB complains about US language. AUD outperforms NZD after soft Kiwi CPI. GBP/USD at fresh post-referendum high.

By Nick Parsons

The US Dollar had a dramatic week which saw it fall a net 1.7% against a basket of major currencies. Its index opened last Monday morning around 90.25, ended the first day of the week little changed but then began to move steadily lower from the moment Senate Democratic leader Chuck Schumer announced that his party would support a short-term spending measure to keep the government funded through to February 8th. President Trump then announced tariffs on imported solar panels and washing machines in his first major move to level a global playing field he says is tilted against American companies. By Tuesday evening the USD index had fallen all the way to a fresh 37-month low of 89.77.

On Wednesday things got worse as the US Trade and Treasury Secretaries unleashed their own particular brand of Alpine diplomacy at the WEF in Davos. Though Treasury Secretary Steve Mnuchin initially stuck to a familiar script that, “longer term the strength of the dollar is a reflection of the strength of the U.S. economy and the fact that it is and will continue to be the primary currency in terms of the reserve currency," he went on to say that, “Obviously a weaker dollar is good for us as it relates to trade and opportunities.” Speaking alongside the Treasury Secretary, Commerce Secretary Wilbur Ross only inflamed the situation by saying that "Trade wars are fought every single day… a trade war has been in place for quite a little while, the difference is the U.S. troops are now coming to the rampart." Less than 12 hours later, the USD index was on an 88 ‘big figure’ and on Thursday hit at a fresh low of 88.20.

Late in the New York afternoon on Thursday, in an interview with CNBC, President Donald Trump said, "the dollar is going to get stronger and stronger and ultimately, I want to see a strong dollar,", further adding that Treasury Secretary Steven Mnuchin's comments were taken out of context. After he then delivered his “America First but not Alone” speech to a packed conference hall in Davos on Friday, the USD steadied somewhat to end a very dramatic week at 88.70; its lowest since early-December 2014.

It was a short, sunny, holiday week in Australia though currency markets were open globally and the AUD was traded throughout the break, both locally in Asia and in the other time zones around the world. The Aussie Dollar began last Monday just below US 80 cents, having broken above this psychological level a couple of time the previous week but on both occasions, having failed to hold there. The first day of the week was a generally quiet one but Tuesday brought a disappointing weekly ANZ-Roy Morgan Australian Consumer Confidence index which fell 3.3% to 119.4 led by a sharp 9.1% fall in the current finances sub-index. This knocked AUD/USD down to a low for the week of 0.7960.

Wednesday brought much better news with a very strong Westpac leading index. The six-month annualised growth rate - which indicates the likely pace of economic activity relative to trend three to nine months into the future - jumped from +0.66% in November to +1.41% in December. As Westpac noted, “This is a very strong above trend reading and, following the solid results in October and November, points to solid above trend growth in the early part of 2018.” The big event offshore on Wednesday was US Treasury Secretary Steve Mnuchin’s comment that, “Obviously a weaker dollar is good for us as it relates to trade and opportunities.” AUD/USD leaped to a high just under 0.8080 then on to a high for the week in early trading in Europe on Thursday of 0.8118. This took the pair above last September’s peak was the best level since January 2015 when it was around three-quarters of the way through its multi-year decline from an all-time high around USD1.10 to just 70 cents.

We won’t find out for another 10 days what the Reserve Bank of Australia has to say – if anything – about the current mix of exchange rates. Before then, we have the quarterly CPI figures next Wednesday to navigate; a potentially tricky day if this last week’s experience of New Zealand CPI is any guide. The Australian Dollar ended the week at USD0.8105, with AUD/NZD at 1.1025 and GBP/AUD1.7460.

The New Zealand Dollar outperformed its Aussie cousin in the first part of the week before reversing all the gains and more in the final two days. AUD/NZD started around 1.0980 but fell all the way to 1.0860 on a combination of poor Australian consumer confidence numbers and a decent performance of services index locally. Indeed, the NZD topped our 1-day performance table on Tuesday as NZD/USD reached a best level around 0.7360 after 12 nations agreed the clumsily-named Comprehensive and Progressive Agreement for Trans-Pacific Partnership.

On Wednesday, as the USD slide accelerated and deepened after the Mnuchin comments in Davos, NZD/USD hit a high around 0.7430; the first time it had been on a US 74 cents ‘big figure’ since early- August 2017. Early in the morning local time on Thursday, the NZD then suffered a very sharp reversal as the long-awaited quarterly inflation numbers fell well short of consensus expectations. NZD/USD immediately tumbled a full cent to around 0.7325 and then on to a low Thursday around 0.7290. The median published estimates were for a quarterly increase in CPI of 0.4% which would have left the annual rate at 1.9%. Instead, StatsNZ reported that prices rose just 0.1% in the December 2017 quarter. Higher petrol prices, air fares, and housing-related costs were offset by lower prices for vegetables, new cars, and a range of household goods. The relatively flat result this quarter leaves the CPI inflation rate at 1.6% for the December 2017 year.

In its last published monetary policy assessment back in early November, the RBNZ saw inflation reaching 2 percent in Q2 2018 as opposed to Q1 2019 which they had previously forecast. It also said it no longer saw headline inflation declining. As that forecast now heads to the shredder, analysts were quick to revise down their interest rate expectations. ANZ said the data have pushed its expectations for the Reserve Bank of New Zealand to hike the official cash rate back from November 2018 to mid-2019. ASB said, “it reinforces that there is no need for the Reserve Bank to raise interest rates anytime soon," whilst amongst the offshore banks Morgan Stanley noted “the weakness seen in 4Q inflation should see the RBNZ on-hold over 1H18, possibly with an added emphasis on the need for a weaker currency”. By Friday’s New York close, the NZD ended the week at USD0.7360 and AUD/NZD1.1025.

The Pound had another remarkable week and against the USD, now boasts an 11-day sequence of rallying without testing the previous day’s low. From the day the ECB dropped its bombshell about possibly changing the language around forward guidance of monetary policy on January 11th, (ironically in an attempt to smooth market volatility) GBP/USD has risen more than 7 cents and at one point was almost 9 cents higher having reached a best level on Thursday around 1.4330. The GBP’s gains came against a background of improving survey evidence and a solid set of labour market numbers which continue to confound the pessimists who have called for a UK recession ever since the EU referendum 18 months ago in June 2016.

The latest economic data from the Office for National Statistics showed that in the three months to November 2017, the number of people in work increased, the number of unemployed people was little changed, and the number of people aged from 16 to 64 not working and not seeking or available to work (economically inactive) decreased. There were 32.21 million people in work, 102,000 more than for the previous 3-month period and 415,000 more than for a year earlier. The unemployment rate was 4.3%, down from 4.8% a year earlier and the joint lowest since 1975, whilst average weekly earnings in nominal terms (that is, not adjusted for price inflation) increased by 2.5% including bonuses and by 2.4% excluding bonuses, compared with a year earlier.

Friday’s Q4 GDP numbers were a touch stronger than consensus forecasts but exactly in line with the +0.5% rise which the Bank of England expected in its November Quarterly Bulletin. The reaction has so far been fairly predictable: “Leave” supporters claim proof the UK can survive post-Brexit whilst the “Remain” camp argue it could all have been so much better. It’s an argument which might never be settled. The pound ended the week at USD1.4165, GBP/AUD1.7460 and GBP/NZD1.9245.

In a week which always looked set to be dominated by Thursday’s ECB Council Meeting, the euro began Monday morning in Asia at USD1.2230 but was initially little moved by further strong incoming economic data in the Eurozone. Germany’s ZEW Survey on Tuesday noted, “The latest survey results reveal an optimistic outlook for the German economy in the first six months of 2018. With 95.2 out of 100 points, this is the most positive assessment of the current economic situation since the introduction of the survey in December 1991. Private consumption, which was the most important driver of economic growth in 2017, is likely to continue to stimulate growth in the coming six months”.

Wednesday’s ‘flash’ PMI surveys were remarkably upbeat. The headline Eurozone PMI rose to 58.6 in January, up from 58.1 December and its highest since June 2006. An acceleration of service sector growth to the fastest since August 2007 was partly countered by a slowdown in manufacturing output growth, though the latter remained very buoyant. The latest three months have seen the strongest factory output increase since 2000. EUR/USD reached a high of 1.2460 on after the Mnuchin comments on Wednesday; the highest since December 2014. During the ECB meeting it hit a best level for the week of 1.2530. The big issue was whether Draghi would change forward guidance on interest rates (he didn’t), try to talk the EUR lower (he didn’t) or sound in any way concerned about the impact of a strong EUR on growth and inflation forecasts (he didn’t). The standard practice amongst Central Bankers when asked to speak about the actions of another is a diplomatic “no comment”. Instead, he entered a war of words with unnamed (but clearly American) officials for manipulating the currency, saying “someone else’s FX talk doesn’t comply with agreed terms...”

For all his criticism, perhaps Mr. Draghi should reflect that the ECB has done more to push up EUR/USD than anything on the US side. Its January 11th account of the December meeting said, "language pertaining to various dimensions of the monetary policy stance and forward guidance could be revisited early in coming year". EUR/USD rose 4.5 cents after that whereas Mnuchin’s comments only added 2 cents. The EUR ended the week at USD1.2430, AUD/EUR0.6525 and NZD/EUR0.5915.

The Canadian Dollar began the week around USD/CAD1.2490 as investors digested the previous week’s 25bp rate hike from the Bank of Canada. This proved to be the high of the week as the USD slid, WTI crude rose steadily to a high around $66.50 per barrel and negotiations around NAFTA seemed to proceeding well, albeit behind closed doors.

Speaking in Davos, Bank of Canada Governor Stephen Poloz said he did not know what potential there may be for further interest rate hikes this year, reiterating that policymakers remained both data dependent and alert to developments with NAFTA. "We've explained to people that there are a number of important issues that force us to not be mechanical or to use a rule or to plan ahead in that way. We've said we are totally data dependent." Asked if the BoC was also "NAFTA dependent," Poloz said: "Oh yes, very." But he said it was impossible to do the arithmetic ahead of time to know what policy response may be needed if the trade deal is terminated or significantly altered. "If the economy began to slow as a result, then we'd be able to put those pieces together, then it would go into the mix, the inflation target would be at risk, and we'd be cutting rates into that. But a lot of things could move at the time.”

With Canada agreeing to the new Comprehensive and Progressive Agreement for Trans-Pacific Partnership and Prime Minister Trudeau making a well-received speech in Davos, the Canadian Dollar ended the week at USD/CAD1.2315, AUD/CAD0.9990 and GBP/CAD1.7445.