Comments
Share this article
Print
Email
The US dollar could slip on a hawkish ECB stance
MUMBAI: Evidence of the US economy slipping into a recession is growing. And the US Federal Reserve has stepped up its efforts to counter the slowdown in growth by aggressively cutting interest rates. In this backdrop, the US dollar dropped to within a whisker of its lifetime low against the euro last week.
On Wednesday, US fourth-quarter growth came in much weaker than expected, while Friday’s non-farm payrolls report showed that in January, the US economy shed jobs for the first time in more than four-and-a-half years.
Meanwhile, the Fed followed up its emergency 0.75% rate cut of the previous week, by lowering its overnight fed funds rate by another 0.50%, to 3%. Market participants now see another cut in March.
The greenback fell close to its historic low against euro on Friday, before paring some of its losses to finish the week down by 0.9%. The greenback also fell by 0.4% against the Japanese yen. The US dollar has managed to stay above its lowest level of $1.4968 against the euro, despite a 1.25% cut in Fed rate over the past fortnight. This is because a considerable portion of the market had already priced in the bad news from the US economy. Also, not all of the news released last week was gloomy. The unemployment rate declined to 4.9% from the psychologically crippling 5% level, while manufacturing ISM rebounded strongly in the month of January, signalling expansion.
Last week’s key data releases from the euro-zone highlighted the difficult position that the European Central Bank (ECB) finds itself in. Figures showed that inflation in the euro-zone rose to a 14-year high of 3.2% in January, while consumer confidence and German retail sales slumped. The ECB has stuck to its hawkish stance on interest rates throughout the turmoil in the global financial markets. The fall in sentiment and the disappointing sales figures bolstered the case for the ECB to significantly soften its stance at this week’s policy meeting. However, with inflation soaring, it is highly unlikely the central bank would cut rates. The euro rose 0.74% against the yen over the week and climbed 1.8% against the British pound.
Sterling also fell 0.9% against the greenback over the week. The pound tripped after a purchasing managers’ survey suggested that growth in the UK manufacturing sector in January was flat and weak data from the housing market heightened expectations that the Bank of England would cut its policy rates at its meeting this week.
In the local inter-bank market, the rupee-dollar pair saw much more sedate price action, compared to the volatile equity market driven action in the previous week. The rupee was supported by a “stand still” in the monetary policy rates by the RBI. After another 0.50% cut in Fed rate last week, the interest rate differential between India and the US has widened further. The greenback’s slide overseas also helped the rupee. Shaky sentiment in the equity market and net sales of Indian assets worth $1.3 billion by the foreign institutional investors ensured that the market sentiment towards the rupee remained one of caution. The rupee-dollar pair traded in the range 39.33 - 39.475 last week and the rupee finished flat against the greenback.
This week too, the rupee could continue to trade in a narrow range. A lot depends on the equity market action and the fate of the US dollar overseas. Globally, equity markets seem to be recovering after taking a severe beating in January. The local market could get some support from that. Otherwise, a number of initial public offerings opened last week for subscription. That could draw good interest from FIIs. Overall, some stability can be expected in the equity market and that would be good for the rupee.
This week is quiet crucial for the US dollar, as depending on the tone of the monetary policy statement of the ECB, market participants could push it lower than its lifetime low against the euro. That could trigger some more gains for the Asian currencies, including the Indian rupee.
Otherwise, oil prices are holding near $90 per barrel. And, with OPEC refusing to increase production of crude oil, a moderation in prices is unlikely in the near future. That remains the key negative for the Indian unit. High international prices of crude oil only intensify the downward pressure on the rupee from the trade front. Merchandise trade deficit has widened quiet significantly this year, as imports growth is running ahead of exports growth. As per trade data released last week, exports during the nine-month period from April-December 2007, rose 21.8% y-o-y to $111.1 billion, while imports grew 26% to $168.8 billion, thereby leading to a trade deficit of $57.7 billion.
Trade pressures have not been felt as capital inflows and invisibles such as private transfers have comfortably exceeded the trade gap. However, with trade pressures growing and capital inflows slowing down, the rupee would face some resistance on its way up. This week the rupee-dollar pair could trade in the range of 39.25 - 39.50.
The author is senior economist, ABN Amro Bank. Views expressed are personal.