FX Talking: Soft landing or recession?
After all the market volatility witnessed in July as the yen carry trade was unwound, investor focus has moved swiftly onto the topic of a soft landing versus a recession. Will the Federal Reserve easing cycle be orderly or will it be rushed into more aggressive easing? The size of the Fed’s first cut is a close call for us, but we narrowly opt for 50bp
Typically, this should be a bearish period for the dollar. Even though short-dated US yields already trade at a deep discount to Fed Funds, these should fall further as the Fed starts its easing cycle. Expect EUR/USD to continue to press the 1.12 area, while USD/JPY should be characterised by an orderly fall to 140 – with positioning better balanced.
Stopping us from predicting a multi-quarter dollar decline is the US election on 5 November. This is pivotal to the dollar story as we discuss in our FX election scenario guide, which you can find here. And potentially investors will start to position for the election outcome after key events such as the first televised Harris-Trump debate on ABC on 10 September.
Away from the US, we are left to focus on the continued stagnation of continental Europe and China. This would only deteriorate further should the next US Administration pursue a more protectionist trade policy and more isolationist foreign policy. That said, expect Chinese authorities to resist renminbi depreciation whoever is in the White House
Emerging markets remain very mixed. A potential re-rating of Asia is underway, while CEE currencies labour to take advantage of a higher EUR/USD. Domestic policies in Mexico and Brazil will likely keep currencies in the region under pressure.
