There are quite a few good reasons for the US dollar to rise in 2014, but with the recently adjusted forward guidance, the gains could be limited, says Simon Smith of FxPro.
Apart from forecasting a 4% rise in the US dollar index, Smith also discusses the uncertainties regarding the next move of the European Central Bank, a potential rate cut in Australia and more.
Simon has over seventeen years experience of macro forecasting and investment strategy research. Prior to joining FxPro in May 2010, Simon was a consultant with Thomson Reuters, having spent four years as Chief Economist at Weavering Capital. He has held economic and strategy positions with Standard & Poor’s, together with consultancy firms 4Cast and MMS International. Simon holds an MSc. in Economics from the University of London and a BSc. from Brunel University.
- Is the positive news in the US economy already priced in, or has the dollar have a long way to run in 2014?
No and no. Three things have happened in the past month to support the bullish US economy view. We’ve had a partial deal on the budget, reducing the fiscal grip this year and removing risk of further government shutdown. Secondly, the Fed has started tapering and adjusted its forward guidance. This is positive because it reduces risks of mis-pricing of assets which creates greater risks for the economy. Finally, data has been good and suggesting a 3% handle on Q4 annualised growth. So in essence this is dollar positive, but the Fed’s adjustment to forward guidance, limiting the pricing in of interest rate rises, works against this. This sets us up for a stronger dollar in 2014, but I would not say it has a long way to run. My view of a 4% rise in the dollar index is around half of the average absolute change in the dollar index in the years preceding the global financial crisis.
- With German inflation squeezing once again, do you think the ECB could act or hint of upcoming monetary loosening policy in the upcoming meeting?
No. I don’t think they are at the stage where they know what their next move is going to be. Since the last rate cut, market interest rates have moved higher, not lower, and even leaving aside the year end squeeze, there were solid reasons to believe the impact would be limited (as it was when they cut rates back in May). As such, I see little mileage in indicating a further cut in rates from the current level.
- Recent HPIs in the UK continue showing a vibrant housing market. Could fear of a housing bubble bring forward a rate hike, even if the unemployment rate remains above 7%?
No (I am loving short answers today!). One of the things that came out of the financial crisis was the need for macro-prudential regulation, so looking at the wider financial system for mis-pricing, bubbles and systemic risks. The housing market falls more into this camp. Fixed mortgage rates have nearly halved over the past year and not because the Bank of England has done anything on rates. Mortgage rates are being impacted by many other factors besides, such as government policy, so it falls under the remit of the financial policy committee, who have said they are monitoring the situation. The Bank could act if the rise in house prices starts feeding through into other areas of the economy, but if people start extending mortgages on rising property values to go on holiday, then we will have come full circle and learnt nothing, so the financial policy committee should have acted way before that point.
- Japan’s tax hike is due in April and is expected to slow down the economy for a while. Could counter steps by the BOJ overcompensate and trigger accelerated yen weakness?
No(!). Think back to last year and the BoJ threw everything bar the kitchen sink into its QE program. Of course, there was an initial and subsequent impact on the yen, but the easy wins have been completed. All central banks have shown that QE is subject to the law of diminishing returns and that applies just as much to the Bank of Japan. They may well accelerate the pace of monetary expansion, but I don’t see this having an impact on the yen that comes close to matching the weakness we saw during the early part of last year.
- The RBA seems to have had success in pushing down the Australian dollar towards the end of 2013. Do you that at the current levels, the RBA will refrain from a rate cut?
No (!!). I think there is scope for at least one further rate cut. The Australian economy is having to shift from an export orientated economy focused on China to one dependent more on domestic demand and that shift takes time. The currency remains over-valued and will be one of the main conduits via which dollar strength is played during 2014.
Further reading: a previous interview with Smith: ECB could set a negative deposit rate in Q1 2014; Real reason behind a “Dectaper”
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