FX Weekly – The dots hit the dollar

by: Georgette Boele , Roy Teo

In this publication: Downward adjustment in Fed’s dot plot weighed on the dollar… and we have adjusted our EUR/USD forecast upwards. USD/JPY: Downside risk towards 110. Norges Bank cut rates as widely expected. EM FX recover after the Fed.

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Downward revision in the Fed’s dot plot pushed US dollar lower

The lowering in the Fed’s dot plot following the FOMC meeting has been a major negative for the US dollar and positive for risky assets. Financial markets have become accustomed to the idea that the Fed tends to move towards market expectations instead of the other way around. Therefore, investors are of the view that it will unlikely be surprised by a Fed hiking more aggressively than market expectations in the future. Our view is that the Fed will keep interest rates on hold this year. The overall result is that the US dollar is moving lower, also versus the euro and the yen. EUR/USD is back above 1.13 while USD/JPY has moved below 112.

New forecast EUR/USD

We now expect EUR/USD to be range-bound for the foreseeable future at around 1.15. For a start, the pricing out of some of the Fed rate hikes could push EUR/USD towards to the top of the range around 1.20. While the ECB could take action and ease monetary policy further given the risks to inflation. As a result, forces will likely keep EUR/USD within a 1.10-1.20 range. However, the longer-term picture has changed for the US dollar. We think that the multi-year bull trend of the US dollar has come to an end. So if the range in EUR/USD is broken, it will likely be on the USD weakness side in our view.

USD/JPY: Downside risk towards 110

The lack of action by the Bank of Japan (BoJ) on 15 March and cautious FOMC statement the following day pushed the Japanese yen (JPY) back towards 112. Comments from BoJ Governor Kuroda that interest rates in Japan could head lower to possibly -0.5% weighed on the JPY temporarily. This morning USD/JPY moved below 111 but this was followed by a quick recovery above 111.50 again. A sharp move lower towards 110 could trigger verbal and/or FX intervention by the Ministry of Finance. We expect a combination of interest rates cuts and/or expansion of qualitative and quantitative easing program by the BoJ in the next monetary policy meeting on 28 April.

Norges bank cuts rates as expected

The Norges Bank cut interest rates by 25bp to 0.5% as widely expected. It also stated that it may cut rates further this year. This was slightly less dovish than financial markets had expected. As a result, the NOK moved higher. However, the NOK gave up it gains afterwards as Governor Olsen said that zero is not a lower bound for Norway. We expect a strengthening of the NOK versus the EUR as oil prices move gradually higher during the course of this year.

Emerging market currencies

Before the Fed emerging market currencies showed a mixed picture. The Brazilian real gave back some of last week’s gains because of political developments, and expectations that the Fed may be more hawkish than expected. For the South African rand uncertainty surrounding monetary policy of the SARB weighed on the ZAR. After the Fed, emerging market currencies moved higher because of US dollar weakness and the view that the Fed being on hold would provide a more benign environment for these economies.

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