The slack water as the pull of the pandemic is replaced by the recovery phase is over. With Brexit growing ever smaller in the rear view mirror of FX markets, there are new forces afoot driving foreign exchange flows. The main driver of markets is the asymmetrical bounce back from economic and social lockdowns thanks to a variety of vaccination and preventative responses to the pandemic. The OECD recently revised its assessment of the global economy as we emerge from the pandemic. In combination with successful vaccination programmes globally, President Biden’s $1.9tn stimulus program has led to a 1% upward revision to global growth this year. These drivers should force USD higher in the short run but facilitate its own demise in the longer run.
The US continues to surprise the market with the progress it is making in its own vaccination program. Following the handover of office less than two months ago, few would have expected the US to be vaccinating millions of people every day. The program has been so successful in fact that President Biden has now committed to offering every US citizen a vaccine by the 1st of May, only one and a half months away. On top of that, whilst the fiscal response to the pandemic by President Trump was generous in the first phases of the pandemic, the US economy was in many peoples’ view in need of fiscal stimulus. Despite the presumption that President Biden would pursue such stimulus measures, few believed he would have been able to get a deal of this magnitude into legislation including many pro-consumption measures to stimulate the economy that have since been realised.
The gap between the US and Europe in particular is still widening and it is this acceleration that is highlighting the outperformance of the US economy, its assets and even its currency. Markets have not shared the same level of conviction on EU reflation as they have the restoration of economic performance on the other side of the Atlantic. For now, whilst rising optimism and an improving economic outlook seem like largely US phenomena, the pull of the Dollar is unrelenting and its appreciation is driven by its relative economic prospects. However, the differential between US economic forecasts cannot last forever. There are only so many jabs you can put in your population’s arm and a limited number of meaningful cheques that you can put in the post to US citizens.
As the rest of the world rebalances, reopens and reflates cash will flow back out of the US Dollar. The US recovery, given that it concerns a leviathan of global trade, will spill over to the rest of the world, aiding global growth. As herd immunity is achieved across other major swathes of the global population the diminishing performance differential between the US and the rest of the world in combination with a better global trading backdrop will allow demand to be released from the Dollar. This weekend too has provided a reminder of the propensity for European political change this year. Political change could provide conditions for greater fiscal support to a laggard Eurozone economy, accelerating the normalisation of EURUSD above 1.20 in the longer run.
Discussion and Analysis by Charles Porter