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EU sanctions on Russia weigh down the Euro

Home >  Daily Market Digest >  EU sanctions on Russia weigh down the Euro

Written by:
Myrsini Giannouli

06 April 2022
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Important calendar events

  • USD: Crude Oil Inventories, FOMC meeting minutes
  • EUR: Monthly German Factory Orders, Monthly PPI
  • GBP: Construction PMI

USD

The dollar continued gaining strength on Tuesday, with the dollar index climbing above the 99.4 level. Reports of escalating violence against Ukraine and increased sanctions on Russia have turned investors’ interest towards safe-haven assets once again. US treasury yields continued rising on Tuesday, with the 10-year treasury yields climbing above 2.55% for the first time since 2019, as investors anticipate a more aggressively hawkish Fed policy.

FOMC members Brainard and Williams delivered speeches on Tuesday, pointing to an increasingly hawkish fiscal policy, boosting the dollar. Over the past couple of weeks, Fed rhetoric was one of the primary drivers of USD price, as investors scan Fed members’ statements to gain insight into the Fed’s future direction. Brainard, who is known for her comparatively dovish stance, stated in her speech that the US central bank needs to act quickly to drive down inflation, with a rapid reduction in the balancing sheet and aggressive rate hikes.

ISM Services PMI data released on Tuesday were mostly in line with expectations, indicating that the US economy is growing at a steady-state and is gradually recovering from the effects of the pandemic.

Robust jobs data last week have also provided support for the dollar, by increasing the odds of a steeper rate hike than previously expected. This was consistent with Fed rhetoric last week, which was especially hawkish, hinting at the possibility of a bigger rate hike than the expected 25 base points. Fed members have shown signs of encouraging a more hawkish fiscal policy, increasing the odds of a 50 bp rate hike at the Central Bank’s next meeting in May. Markets are anticipating total rate hikes of 175 base points within the year to tackle soaring inflation rates.

The US Central bank is attempting to bring down inflation that has been rising at the fastest rate in 40 years and, in its latest policy meeting in March, raised its benchmark interest rate by 25 base points, bringing its interest rate to 0.50%. The 25-base point rate hike was considered conservative, but recent statements by FOMC members, show a shift towards a more aggressively hawkish policy.

The minutes of the Fed’s latest meeting are due to be released on Wednesday and may affect the dollar, as they may provide insight into the Fed’s future direction.

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EUR

The Euro plummeted on Tuesday, with the EUR/USD rate falling below the 1.091 level. If the currency pair goes up, it may encounter resistance at 1.113 and further up at 1.148, while if it declines, support may be found at the 1.080 level.

Reports of escalating Russian attacks against Ukraine have boosted the safe-haven dollar this week, while the Euro retreated. A new round of sanctions on Russia was discussed at ECOFIN meetings on Tuesday. Proposed EU sanctions against Russia have weighed down the Euro, as the EU is planning a ban on coal imports from Russia, worth €4bn a year. EU officials also stated on Tuesday that the new sanctions would include a full ban on four Russian banks, as well as a ban on Russian ships and road operators.

Russia’s demands for payments of energy imports in Rubles have increased concerns of an impending energy crisis in Europe, putting pressure on the Euro. Germany has already entered the initial phases of implementing an emergency gas law, preparing for rationing gas resources among its population.

Several indicators were also released on Tuesday for the Euro, including French Industrial Production, Spanish Services PMI, Italian Services PMI, French Final Services PMI, German Final Services PMI, and Final Services PMI. These are indicators of economic health for some of the Eurozone’s leading economies and the Eurozone as a whole and were overall positive for the state of the EU economy, providing support for the currency.

Last week, Europe’s headline inflation hit a record high of 7.5%, which may prompt the ECB to take swift action to tackle unprecedented inflation rates in the Eurozone. The ECB is trying to avert a dangerous economic effect known as stagflation, the mix of economic stagnation and high inflation rates.

ECB President Lagarde stated last week that the growth of the Eurozone economy has been stalled by the war in Ukraine and that inflation will likely rise even further, stressing that the ECB needs to remain flexible and may alter its monetary policy in response to unforeseen inflationary and economic pressures.

The ECB has been pursuing a more cautious fiscal policy than other major Central Banks and does not plan to raise its benchmark interest rate before the end of its bond-buying program in the third quarter of 2022. As the Fed and the BOE have already raised their benchmark interest rates, the Euro remains at a disadvantage from the difference in interest rates.

Monthly German Factory Orders and Monthly PPI data are scheduled to be released on Wednesday, which are indicators of economic health and inflation and may affect the Euro, although high volatility is not expected from the release of these indicators.

EURUSD 1hr chart

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GBP

The GBP/USD rate plummeted on Tuesday, falling below the 1.307 level. If the GBP/USD rate goes up, it may encounter resistance at the 1.331 level and further up near the 1.341 level, while if it declines, support may be found near the 1.300 level.

Reports of new western sanctions on Russia have bolstered the safe-haven dollar against riskier currencies this week. In addition, the sterling has lost ground against the dollar, due to the divergence in monetary policy between the Fed and the BOE. Although the BOE started the year with a strong hawkish policy, there are signs that its stance may soften in the coming months, weighed down by a fragile economy. In contrast, the increasingly hawkish Fed rhetoric is boosting the dollar against the pound.

BOE Governor Andrew Bailey delivered a speech on Monday, stressing the importance of delivering a clear message to the public regarding the BOE’s future policy. He pointed out that the joint effects of COVID and the war in Ukraine on the global economy would take some time to manifest fully and, in the meantime, the BOE would need to remain cautious. His speech was seen as dovish by investors, putting pressure on the pound. Last week, Bailey had warned that the energy crisis in the UK was going to be ‘historic’, in a speech that was again considered more dovish than expected, especially compared to the more hawkish Fed rhetoric.

In its latest meeting in March, the BOE raised its benchmark interest rate by 25 base points, bringing its interest rate to 0.75%. The Bank of England is shifting to a more hawkish policy and a return to pre-pandemic interest rates this year in an attempt to tackle inflation.

UK inflation is already at a 30-year high and expected to rise further, as the war in Ukraine raises the price of key commodities and energy. The Office for Budget Responsibility has set the average inflation forecast for the year to 7.4%, with a peak rate of close to 9% in Q4. Rising commodity prices and import costs in the UK, and especially the high costs of imported energy, are driving inflation rates even higher. A tighter fiscal policy and consecutive rate hikes though may stifle the country’s economy, forcing the BOE to perform a balancing act between bringing inflation under control and allowing for economic growth.

Construction PMI data are scheduled to be released on Wednesday for the sterling, which can provide an indication of economic health for the UK, and may cause slight volatility in the currency.

GBPUSD 1hr chart

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JPY

The Yen weakened against the dollar on Tuesday, with the USD/JPY rate climbing above the 123.6 level. The USD/JPY is following an uptrend and if it rises further, it may encounter resistance at the 2015 high of 125.1. If the USD/JPY declines, support might be found near the 118 level and further down at 114.8.

The safe-haven dollar was boosted these past few days by reports of renewed hostilities in Ukraine and the possibility of new sanctions on Russia. The Yen is also considered a safe-haven currency but has not been affected as much as other safe-haven assets by the crisis in Ukraine, and many investors have been doubting its safe-haven status.

Annual Average Cash Earnings and Annual Household Spending data were released on Tuesday for the Yen, which was mixed for the state of the economy in Japan and failed to provide support for the currency.

In addition, Bank of Japan Governor Haruhiko Kuroda, commented early on Tuesday on the weakening Yen, expressing concern that recent yen moves have been somewhat rapid. Kuroda however, reiterated the benefits of a weaker Yen especially to Japan’s exports, although he acknowledged the added burden of the weak currency on households. Overall, his statements were considered to be in favor of the weak yen, although the BOJ will be monitoring the currency for sudden fluctuations.

In the past few months, the Yen has been affected primarily by the BOJ’s fiscal policy. In its latest monetary policy meeting in March, the Bank of Japan maintained its ultra-accommodating monetary policy and did not raise its negative interest rate from -0.10%. The difference in interest rates with other major Central Banks, especially with the Fed and the BOE, puts the Yen at a disadvantage driving its price down.

In the BOJ Summary of Opinions published last week, Japanese policymakers stated that inflationary pressures are building in Japan, with inflation growing to 1%, which is still far from the BOJ’s 2% target. Bank of Japan board members seemed skeptical about the rise in inflation though, expressing doubts on whether the rise was sustainable and concluded that the BOJ must continue its ultra-accommodating fiscal policy to support the economy.

Japan’s core CPI may climb around 2% in April, similar to other countries that are expected to see a peak in inflation rates around the same time, largely due to the effect of the increase in oil prices. Japan is a net energy importer and the current energy crisis is damaging the country’s terms of trade and overall economic health. The rising cost of oil is causing goods prices to rise in Japan, with oil imports accounting for 80% of the country’s oil consumption.

USDJPY 1hr chart

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Written by:
Myrsini Giannouli

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