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Dollar rally halted ahead of FOMC meeting

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Written by:
Myrsini Giannouli

15 March 2022
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How the war in Ukraine affects markets

War continues raging in Ukraine for 20 days now, with heavy casualties including civilians and children. Millions of refugees are fleeing Ukraine, creating an additional issue for the EU, which has vowed to accept all refugees entering its borders from Ukraine.

On Friday, reports of diplomatic negotiations between Russia and Ukraine raised hopes of a de-escalation of the crisis. Diplomatic talks between Russia and Ukraine were resumed on Monday, sparking hopes for a resolution of the conflict, although Russian attacks continue.

Major sanctions against Russia

The US, the EU, and their allies have blocked several Russian banks from access to the SWIFT banking system and have imposed restrictions on Russia’s Central Bank. These measures aim to cut off Russian banks from the international financing system and undermine the Russian Central Bank’s ability to support the collapsing Rouble. 

US President Joe Biden announced last week, that the US would be banning all oil and gas imports from Russia. The announcement of US oil sanctions sent oil prices skyrocketing to over $130 per barrel last Tuesday. The US, however, is not highly dependent on Russian oil, importing only a small percentage of its crude oil from Russia. The UK has similarly vowed to phase out its dependency on Russian oil and major British oil companies are already boycotting Russian oil.

The EU has not yet imposed direct bans on Russian oil and gas imports, even after being pressured to do so by western allies. The EU relies heavily on Russian energy-related imports, with almost 30% of the crude oil, 47% of its coal, and over 40% percent of its gas imports coming from Russia. The EU is trying to scale back its dependency on Russian imports and has imposed new sanctions on Russian oligarchs and has further excluded certain banks from Russia’s ally, Belarus, from the SWIFT system.  

Impact of Ukraine crisis on currencies, commodities

The ECB, the Fed, and other major Central Banks are already trying to strike a balance between soaring inflation rates and economic woes since the onset of the pandemic, and the war in Ukraine is complicating matters further. Sanctions against Russia are driving the price of key commodities up, especially energy-related commodities, further increasing inflation.

Global commodity prices continued to surge last week over Russia supply fears, posting their biggest weekly advance on record since 1960. Energy-related commodities especially, such as oil and natural gas, reached record prices. European natural gas prices surged to an all-time high last week, with the European benchmark Dutch front-month gas touching 345 euro per megawatt-hour, while global oil prices spiked to over $130 per barrel. 

Other commodities, such as wheat and metals reached record highs last week, driving inflation up. Russia and Ukraine account for about 29% of global wheat exports, 19% of corn exports, and 80% of sunflower oil exports, and the prices of these commodities are soaring. Aluminum hit a record high of $3,450 per ton on the London Metal Exchange and three-month nickel jumped to a record high above $100,000 a metric ton, with the London Metal Exchange suspending temporarily its trade. Gold jumped above $2,050 per ounce last week, its highest price since the peak of the pandemic in August 2020. The price of other metals, such as copper, palladium, and platinum also spiked during the week. 

Stock markets have been plummeting amid a rapid increase in the price of commodities and concerns about further military escalations. Fears that sanctions against Russia would have a severe impact on the global economy have been pushing markets down. The Rouble has plummeted to historic lows, while the Russian Stock Exchange remains closed. On Sunday, the Russian finance minister stated that Russia would make its sovereign debt payments in roubles rather than dollars. With a $117mn debt payment coming up on Wednesday, this might lead to the nation’s first default since 1998, since Russia’s bond contracts do not have the option of payment in roubles.

Important Calendar Events

  • EUR: French Final CPI, ZEW Economic Sentiment, German ZEW Economic Sentiment, ECOFIN Meetings
  • USD: Monthly PPI, Monthly Core PPI, Empire State Manufacturing Index
  • GBP: Average Earnings Index, Claimant Count Change, Unemployment Rate

USD

The dollar index remained mostly above the 99 levels on Monday, although it dropped a little since Friday when it had climbed to almost 100, boosted by the war in Ukraine and expectations of a Fed rate hike. The dollar is considered a safe-haven currency and rises when a risk-aversion sentiment prevails, as investors turn towards safer assets. As diplomatic negotiations between Russia and Ukraine were resumed on Monday, the dollar retreated a little.

On Monday, treasury yields rose across the US treasury chest, in expectations that the Fed would tighten its monetary policy in its next meeting later in the week. The 10-year US Treasury yield especially rose above 2%, its highest level since 2019. 

Severe sanctions against Russia have been sending the price of key commodities up, and inflation in the US is soaring. CPI data released last week showed that inflation rates in the US continue to rise, reaching 7.9% in February, which is the fastest annual increase in 40 years. Rising inflation rates in the US boost the dollar, amid expectations that the Federal Reserve might tighten its monetary policy to tackle inflation, as the next meeting of the US Central Bank is drawing near. 

The highly-anticipated Fed meeting is scheduled for this Wednesday, March 16th and its outcome is expected to affect the dollar considerably. The US Federal Reserve is expected to raise its benchmark interest rate by at least 25 base points on Wednesday, while some analysts predict a sharp interest raise of 50 base points. A series of Fed rate hikes have already been priced in by markets for this year, driving the dollar up over the past few weeks. If the Fed decides on a conservative rate hike of 25 bp points, it might seem less hawkish than expected and could drive the dollar down. A more hawkish policy and a higher rate hike could see the dollar climbing even further, although this scenario seems less likely.

Important economic indicators scheduled to be released on Tuesday for the dollar, include Monthly PPI, Monthly Core PPI, and Empire State Manufacturing Index. The PPI data, in particular, are important indicators of consumer inflation and their release may cause some volatility for the dollar. Indicators of inflation are expected to play a major part in the Fed’s monetary policy meeting on Wednesday and may influence the Fed’s benchmark interest rate. 

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EUR 

The Euro was steady against the dollar on Monday, with EUR/USD trading sideways, around the 1.09 level. The Euro fell heavily against the dollar last week, with EUR/USD plunging as low as 1.08 at the beginning of the week, its lowest rate since May 2020. If the currency pair goes up, it may encounter resistance at 1.148 and further up at 1.169, while if it declines, support may be found at the 1.063 level. 

Germany’s 10-year Bund yield, which serves as a barometer for eurozone borrowing costs, has been rising since the ECB showed signs of shifting towards a more hawkish monetary policy last week. Germany’s 10-year note continued to rise on Monday, as rising commodity and energy prices increase inflation in the Eurozone, and may force the ECB to take action to tackle soaring inflation.

Last week, the European Central Bank announced a surprising decision to wind down its bond-purchasing program sooner than expected, placing the end of the bond-buying program at the third quarter of 2022, if financial conditions in the Eurozone allow it. The ECB is trying to avert a dangerous economic effect known as stagflation, the mix of economic stagnation and high inflation rates. 

The ECB has further announced that it does not plan to raise its benchmark interest rate before the end of its bond-buying program in the third quarter of 2022. Many market analysts now predict that the ECB will raise its interest rate by at least 30 base points in Q4 of 2022. As the Fed and the BOE are expected to raise their benchmark interest rates again this week though, the Euro remains at a disadvantage from the difference in interest rates.

Financial indicators scheduled to be released on Tuesday for the Eurozone, include French Final CPI, ZEW Economic Sentiment, German ZEW Economic Sentiment. These are indicators of economic health for some of the Eurozone’s leading economies and the EU as a whole and may cause some volatility for the Euro. ECOFIN Meetings are also scheduled for Tuesday and may cause some volatility for the Euro.

EURUSD 1hr chart

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GBP 

The sterling has been weakening against the dollar these past few weeks, with the GBP/USD rate following a downtrend. GBP/USD continued its decline on Monday, falling as low as 1.30 and the currency rate is currently at its lowest level in more than two years. If the GBP/USD rate goes up again, there may be resistance at the 1.364 level, while if it declines, further support may be found near the 1.284 level. 

The sterling has been under pressure since the war between Russia and Ukraine broke out and investors turned towards safer assets. Rising commodity prices and soaring inflation rates in the UK are competing against an economy that is still sluggish in the wake of the pandemic. The Bank of England has already signaled a shift to a more hawkish policy and a return to pre-pandemic interest rates this year in an attempt to tackle inflation.

The Official BOE interest rate is going to be announced this week on Thursday, March 17th, just a day after the Fed’s interest rate announcement. The Bank of England is expected to raise its benchmark interest rate on Thursday by at least 25 base points, after already performing two consecutive rate hikes in its previous meetings. Markets have already priced in approximately six BOE rate hikes this year, but a steeper rate hike is considered a possibility and would give the pound a boost.   

Several indicators are scheduled to be released on Tuesday for the sterling, including Average Earnings Index, Claimant Count Change, Unemployment Rate. These are important employment indicators in the UK and may cause some volatility for the sterling, ahead of the BOE’s next meeting on Thursday.

GBPUSD 1hr chart

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JPY 

The Yen continued its decline against the dollar on Monday, with the USD/JPY rate climbing to 118.2, its highest rate in six years. Both the Yen and the dollar are considered safe-haven currencies, but the Yen has been outperformed by the dollar, since the beginning of the war in Ukraine. If the USD/JPY pair continues to climb, it may find resistance near the 118.5 level, while if it declines, support might be found at 114.8 and further down at 113.4.

The Yen gained a little strength over the past few weeks, as risk-appetite diminished over the war in Ukraine and investors turned towards safer assets. The currency, however, has not picked up pace as much as other safe-haven assets, as the BOJ’s fiscal policy is keeping the Yen down. Low inflation rates in Japan and a weakening economy are steering the BOJ towards maintaining its dovish monetary policy. Inflation in Japan is far below the BOJ’s 2% goal, although as prices of imported goods and energy continue to increase, inflation may rise, while overall economic health declines. 

The Bank of Japan is holding its monetary policy meeting this week, on March 18th. The BOJ’s meeting is going to follow the Fed and BOE meetings, in which the two major Central Banks are expected to raise their benchmark interest rates. The BOJ however, seems set to maintain its ultra-accommodating monetary policy, and a rate hike is not expected. 

The difference in interest rates with other major Central Banks, especially with the Fed and the BOE puts the Yen at a disadvantage. Coming right after the Fed’s and the BOE’s meetings, which are shifting towards a more hawkish policy, the BOJ’s dovish stance might drive the Yen further down.

USDJPY 1hr chart

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Written by:
Myrsini Giannouli

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