FX Monthly Outlook: Tariffs, trade and tweets rile currency markets

Many of America’s key trading partners remain on alert. As President Trump tweets threats of further tariffs, sensitive FX markets respond, with traders on the lookout for additional tariffs and clues to the Fed’s softening stance on monetary policy.

What's in play?

Chinese retaliation: The Chinese responded to the newest round of tariffs, blaming the US for a breakdown in talks, and demanding more respect throughout the process. The potential for retaliation against individual US companies, industry groups, or withholding natural resources is heightened. China may cut off supplies of rare earth elements, a key input to the thriving US technology sector. Ultimately, retaliation can disrupt long-term trade stability and lift safe-haven currencies such as the USD, JPY and CHF.

New UK Prime Minister to lead Brexit: With Theresa May’s recent resignation as UK Prime Minister, candidates are lining up for a “Game of Thrones-like” challenge to lead the UK through its October 31 Brexit deadline. A short list of candidates now looks to favor a hardline Brexiteer. A “hard” Brexit without a clear deal with the EU could see the pound revisiting or even passing historical post-Brexit lows of 1.20.

Mexico is in Trump’s sights: A Trump tweet announcing a tariff on Mexican exports to the US at 5%, increasing to 25% by October, caused the peso to pop to its highest level year to date at 19.87 USD/MXN. A week later, the peso completely reversed its losses after Mexico agreed to commit more resources to its northern border and purchase US food stocks over the next 45-90 days. While the market has cheered the deal with Mexico, we’ve seen other talks crack in the past. The peso won’t be clear until the 91st day, assuming the US sees proof that migration north has decreased

What's next?

July Fed rate cut on the table: Following Fed Governor James Bullard’s comments that the Fed should act “soon” on cutting interest rates to combat fallout from trade uncertainties and persistent, below- target inflation, bond traders are pricing in a Fed rate cut of 0.25% in July. If the Fed pivots from its stable rate policy, the USD’s 14-month broad rally will likely reverse.

India next in line for tariffs: India was removed from the US Treasury’s list of tariff-exempt “developing nations”. This opens the door for fresh US tariffs on an economy already showing signs of slowing growth. The rupee has strengthened from 72 to 69 per USD this year, carried by PM Narendra Modi’s recent re-election, softening oil prices and expectations of looser G10 monetary policy. Additional tariffs on India could push the rupee up towards 71 per USD.

What happened?

Shots fired in US-China Trade War: $200 billion of Chinese exports were hit with a 25% tariff, up from the previous rate of 10%. The US is threatening tariffs on an additional $300 billion in Chinese exports. This most recent escalation appears to be more prolonged with the Fed expressing a direct concern from the economic fallout. The renminbi jumped along with the tariff hike approaching the key psychological resistance level of 7 RMB per USD. The Chinese currency has never traded above 7, an important threshold for the People’s Bank of China to defend in reaching its long term goal of becoming a global reserve currency.

US outlines currency manipulator watch list: The US Treasury Department released its list of countries approaching unfair currency practices. Listed countries include major US trade partners with a current account surplus of 2% or greater to GDP, countries that engage in persistent single-sided FX market interventions, and/or countries with a trade surplus of more than $20 billion with the US. Although no country was formally labeled as a currency “manipulator”, nine were singled out: Ireland, Italy, Vietnam, Singapore, Malaysia, China, Japan, South Korea and Germany. Countries designated currency manipulators will find themselves under the close watch of the US Treasury Dept.

Spot Returns May 2019


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About the Author

William Joyce is a Vice President in Foreign Exchange Sales with Silicon Valley Bank based in Austin, TX. Will works with clients to manage the opportunities and risks associated with doing business internationally as they relate to FX markets.

Prior to SVB, Will worked for Bloomberg L.P. in San Francisco where he helped institutional investors and banks use data and analytics to better act on market information. He started his career with Fidelity Investments in Boston, MA and is a graduate of the College of Charleston with a B.S. in Economics.