Sunday, April 26, 2009

FX Briefing : Growth Outlook Weighs on Euro


  • IMF revises growth forecasts down significantly
  • Recession deeper and longer in the eurozone than in the US
  • Euro hampered by ECB dithering

This week, EUR-USD fell below 1.30 for the first time in over a month. The euro only managed to climb well over 1.30 again towards the end of the week, after several European sentiment indicators, particularly the ifo business climate, had shown an improvement. The yen remained firm: USD-JPY dropped below the 97 mark at the end of the week. After strengthening for quite some time, the pound began to weaken again on Chancellor of the Exchequer Alistair Darling's announcement that public borrowing would soar to a record amount, given the gloomy economic outlook.

The relative strength of the dollar is largely due to the notion that the centre of the crisis has now shifted from the US to Europe. There were plenty of indications to this effect this week. According to the International Monetary Fund's spring forecast, the recession in the eurozone will be far deeper and go on much longer than in the US. The IMF experts revised their January forecasts down significantly, particularly for the export nations Germany and Japan, namely, by over three percentage points. The IMF is predicting that growth in Germany will decline by 5.6% in 2009, whereas the six German economic research institutes, which have also published their forecasts, are expecting a drop of -6%. The forecasts are thus getting closer to our prediction of -7%.

Eurozone GDP is expected to shrink by 4% this year, and to contract further by 1% in 2010. In comparison, the figures for the US appear almost upbeat: there, the IMF is expecting GDP contraction of “only” 2.8% in 2009, and stagnation next year.

Moreover, the IMF has come to the conclusion that restructuring in the banking sector is further advanced in the US than in Europe. Earnings reports published by US banks this week were good for the most part, confirming this impression. The Monetary Fund sees a recovery of the financial system as a prerequisite for economic recovery.

In view of these problems, forex market players are now seeing the European central bank's monetary policy in a different light. Whereas previously, the higher interest rates in the euro area were in the euro's favour, now the focus has shifted to the detrimental macroeconomic effects of the ECB's hesitant policy. ECB officials' comments signal that the governing council is still sharply divided on how to proceed. Thus the ECB is unlikely to act decisively in the near future.

However, decisive action is just what market players are expecting, and in its World Economic Outlook, the IMF also recommends prompt and aggressive monetary policy action to counteract deflation risks, which it sees as being quite substantial. The IMF expects the inflation rate in the eurozone to be around 0.5% only this year and next - well below the ECB's target zone. Furthermore, as a result of the economic collapse in the last two quarters, a negative output gap has emerged, which is not likely to close next year.

Thus the direction of monetary policy is set to be dictated by worries about deflation, rather than inflation.

Next week, the focus will be more on US indicators again. GDP figures for the first quarter are due to be released, and the FOMC is meeting to discuss monetary policy. Both events are likely to confirm the impression that at the moment, the problems in other parts of the world are bigger than in the US.


This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHFBANK Group") solely for the information of its clients.

The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results.

This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities.