Yesterday (March 16th 2023) marked the 1 year anniversary of the Federal Reserve’s first rate hike since 2018 from a meagre 0.25% to 0.5%. Today, after 8 consecutive rate interest rate increases in what was the fastest tightening cycle in history, the rate sits at a problematic 4.5%. Similarly, the ECB had hiked the main rate 6 times from -0.5% to 3% today. While the aggressively hawkish monetary policy has seen inflation decline from 9.1% to 6% in the US, and 10.5% to 8.5% in the Eurozone, the figures are still far from price stability targets. Moreover, the rates have weighed heavily on global markets and especially the global banking system. The past few weeks have revealed grave fragilities, led by the collapse of Silvergate Bank, which has dominoed to the collapse of Silicon Valley Bank, Signature bank and on the 15thmarch, Credit Suisse’s (CS) 21% share price plunge following its announcement of “material weaknesses” in its financial reporting.

The impact of these on the EUR/USD have been manifested in the roller coaster of a week in price action. In the week beginning on the 8thof March, news of the collapse of multiple US banks and lower US inflation expectations from cooling employment figures had placed great downward pressure on the USD. The implication of both being increased investor scepticism regarding whether the Federal Reserve would continue raise rates at the next FOMC meeting on the 22nd March. Indeed, following the SVB news, Goldman Sachs, Barclays and Wells Fargo have adjusted rate expectations and believe the Fed will maintain current rates in March. A more dovish stance would negatively impact US inflows and demand for USD. This weakness is exacerbated by the fact that all 3 recent bank collapses were in the US with minimal exposure to Europe.

The result was a 228bp rise in the EUR/USD in the week starting 8th March 2023.

However, these gains were almost bound to be short term, given that bank contagions would see rallies in the USD.

Indeed, the reversal of these gains were immediately reflected when CS announced material weaknesses in their FY22 reporting. This was drastically worsened when the Saudi National Bank (CS’s largest backer) stated that it would not inject further capital into the bank. The EUR/USD pair had shed over 200 pips from its weekly high, falling to the 1.053 zone. Essentially, the dollar gained on the back of safe-haven buying given CS’s large presence and exposure in European markets. The Euro has recovered slightly to the 1.061 zone following the ECB’s 50bp rate hike this morning and reassurance of a $54b credit lifeline for CS from the Swiss National Bank to. This represents the first emergency lifeline given to a major global bank since the GFC. Again, the evidential struggle of global banks amid the fastest rate tightening cycle raises serious doubts over whether central banks are able to continue raising rates to combat inflation.

Nonetheless, this morning, ECB’s Lagarde has stressed that banks are in a much strong position then they were in 2008 as justification for the EU rate hike this morning.

It is clear that while FX markets had largely reacted to the headlines of US inflation and the Fed’s monetary policy, more recently, growing global financial stress has driven market movement. Investors should proceed with caution as volatility is likely to remain.

The Roller Coaster Ride of EUR/USD

2023年3月17日