FX Monthly Preview – 3/2/10

Monthly Preview

With something clearly rotten in the Hellenic Republic and US economic data looking decidedly weaker than just a few months ago, markets are facing a drama of Shakespearian proportions in March. The first week of the month is looking suitably eventful, what with interest rate decisions from all corners of the globe (including the RBA, BoE and ECB) and the all-important US employment data. However, these reports will likely be overshadowed by politics, as elected leaders here and abroad attempt to patch up the holes in various policy melodramas. In Washington, with midterm elections on the horizon and Congress as divided as ever, battles are raging over every piece of President Obama’s agenda. In Europe, the Greek tragedy is headed for its final act, with dire implications for the Euro Zone no matter what the outcome. In Asia, more and more pressure is coming to bear on the PBoC to cool the overheating Chinese economy, while the countrys leadership agonize over the yuan exchange rate.

Greece and the UK: A plague on both your houses

No one can really predict with any degree of certainty what direction the European peripheral debt saga will take, but when the story is recorded in the history books, Greece’s syndicated 10-year debt offering may feature prominently. Depending upon the outcome of the sale, the European sovereign debt crisis may put to rest for a while or continue to roil markets. Recall the controversies surrounding Greece’s last debt sale, when widespread reports of robust orders circulated, only for the issue to tank in the secondary market upon launch.

Any mangled lines from the Greeks could be costly: if Moody’s were to downgrade its sovereign rating two notches, in line with ratings at Fitch and S&P, Greece’s sovereign debt would be ineligible for ECB repo operations when collateral criteria reverts to the normal minimum thresholds (A3/A- or above) at the end of 2010. The Greek cabinet will meet March 3 to discuss the additional austerity measures demanded by the rest of the Euro Zone, with an announcement on further budget cuts expected after the meeting. German Chancellor Merkel will meet with her Greek counterpart on March 5. In currency markets, euro sentiment depends on the final shape of Greeces austerity plans.
Considering the Greece story only really caught fire after the last ECB meeting, ECB President Trichet’s monthly press conference on March 4th is a must see. Moreover, the ECB’s three- and six-month special refinancing operations are scheduled to expire at the end of the month. The market will be looking for a bravura performance from the ECB, an institution often characterized as rigid. Real flexibility is needed in the face of unprecedented challenges to the European monetary union.

Across the English Channel, markets are counting the days until the UK general election, due to be called by June 6th. The Conservatives lead over the incumbent Labour Party has fallen below the key 10% threshold. A margin of victory greater than 10% is generally considered necessary to avoid a dreaded hung parliament, which could result in weeks of uncertainty as leadership arrangements are worked out. A modest upward revision in the UKs Q4 GDP set off speculation last week that PM Brown would take advantage of the good news to call an election ahead of schedule. This guessing game is likely to persist for the rest of the month. Worries over the election, coupled with a March 4 Bank of England decision on whether to pursue additional quantitative measures, could increase pressure on an already vulnerable British Pound.

Beijing opera

In Asia, political pressure continues to mount on China to revalue its currency, although the Chinese are moving at their own pace. Dealers have speculated that the Chinese authorities have been conducting stress tests of a currency appreciation model on labor intensive industries, but the eventual timing of a revaluation is still in the realm of speculation.

Monthly metrics on tap in the second week of March call for more attention than usual given they come in the wake of a more aggressive PBoC stance on liquidity. Recall that Chinas central bank raised the reserve requirement ratio for banks for a second time in the middle of February. Early evidence of the impact from stimulus exit measures has appeared in recent data and media reports. China’s February manufacturing PMI fell for the second straight month to a one-year low, portending a slower recovery going forward, while articles in the press have suggested that new loans figures may fail to eclipse CNY1T mark after the ten month high of CNY1.4T in lending in January, which arguably provoked an aggressive PBoC response. This months data, particularly for consumer inflation, will likely be influenced by seasonal factors, given that the Chinese New Year celebration fell on different months in 2009 and 2010. The low January CPI figure was attributed precisely to that effect, posing the risk of an-above trend CPI print for February.

Congress doth protest too much

In the US, political rhetoric surrounding the healthcare reform has grown progressively more dramatic, with everyone waiting to see whether the Democrats will follow through on threats to use the “nuclear option” in the Senate. This tactic would involve using budget reconciliation rules to avoid a Senate filibuster and allow the Democrats to pass the healthcare bill by a simple majority. Though the president is desperate to get the centerpiece of his agenda enacted, there are concerns that radioactive reconciliation might cede control of the stage to future Republican majorities.

As the healthcare drama unfolds, Senators Dodd and Corker are expected to unveil a compromise bill on financial market regulation reform within days. The bill is unlikely to impose any draconian measures on the financial industry and is expected to dramatically weaken the proposed consumer protection agency. Financial stocks have been firm ahead of the news, indicating little fear of any surprises from the market friendly Dodd, and they could even get a boost from end of uncertainty surrounding the issue of financial regulation.

Politics will also be influencing the key economic data as payrolls feel the rising impact of census related hiring. Last month’s payrolls report showed census related hiring accounted for 9,000 new jobs in January, and that number is expected to continue to rise for the next few months on the way to over one million temporary jobs created by stimulus spending for the decennial census. But census jobs will likely be more than offset by Mother Nature, making the payrolls data more difficult to predict than ever this month when February’s data is reported on March 5th. Heavy snowstorms that have blanketed much of the US in early 2010 are expected to have a significant negative impact on the data. Cushioning the blow for any disappointing number, White House economic advisor Larry Summers recently commented that past blizzards have affected payroll figures by as much as one to two hundred thousand jobs.

The final act

In the midst of all this intrigue, Fed chief Ben Bernanke is trying to keep his institution out of the spotlight, unfettered by new political oversight. The FOMC is taking its first tentative steps toward normalization, with the discount rate bump in February and the MBS program tapering out at month’s end. As clarity on exit strategies builds at the Fed and central banks worldwide, as well as more contentious within central banks (as evidenced by the dissent of the FOMC’s Hoenig), political antics can only complicate the orderly withdrawal from easing. By their very nature politics are dramatic, but that may result in lengthening the closing act of the financial crisis.

Calendar of Notable Events

March 4: Greek cabinet meeting on austerity measures; BOE rate decision and asset purchase target; ECB rate decision

March 5: Feb Unemployment and Payrolls data
March 16: FOMC rate decision and statement
March 26: Final US Q4 2009 GDP reading

Written by Trade the News

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