Assessing the FX implications of COVID-19's global spread

Summary

The US dollar has faced uncertainty in the past month due to mixed signals from economic reopenings and rising COVID-19 cases. The dollar has remained stable around the 100 index level. While Europe and the UK initially struggled more with the virus, their economic outlooks are improving, potentially strengthening the euro and sterling against the dollar by 2021. In Asia, Japan's yen has acted as a safe haven amid low new COVID-19 cases, though long-term growth prospects are weaker. Conversely, China's yuan is expected to appreciate significantly due to robust growth prospects.

Takeaways

• 🌍 The past month has been uncertain for the US dollar due to various economic factors.
• 📈 The reopening of some US state economies has positively impacted the market.
• 📉 However, the rising US cumulative case count of COVID-19 poses a risk of prolonged restrictions.
• 💬 Uncertainty around the dollar is also fueled by debates on whether the US or its key trading partners (Europe and the UK) are better positioned for recovery.
• 📊 Over the past month, the US dollar has remained stable, trading around the 100 index level on a DXY basis.
• 🇪🇺 Europe and the UK have faced greater risks due to earlier and harder impacts from COVID-19, necessitating stringent measures.
• 🔄 In the coming months, the growth disparity between the euro area and the US is expected to stabilize and narrow.
• 📉 The euro is anticipated to stabilize against the US dollar at 1.06 in the second half of 2020, with a modest rise to 1.10 by December 2021.
• 💷 Sterling is likely to experience a similar lift to the euro, with risks skewed to the upside.
• 🇯🇵 Japan's yen has recently outperformed despite economic challenges, due to a low COVID-19 case count and limited room for aggressive policy measures by the Bank of Japan.

Q & A

What has caused uncertainty around the US dollar in the past month?

Uncertainty around the US dollar has been caused by the plan to reopen some US state economies, which has been a positive for the market, and the mounting US cumulative case count of COVID-19, which raises the risk of rolling restrictions and shutdowns.

How have the economic conditions in Europe and the UK compared to the US in recent weeks?

In recent weeks, the risks surrounding Europe and the UK have been seen as greater than those in the US because Europe and the UK were hit earlier and harder by the virus, leading to more stringent actions to restrict the spread. However, the growth disparity between the euro area and the US looks set to stabilize and narrow.

What is the expected market implication for the euro against the US dollar in the second half of 2020?

The expected market implication is that the euro should stabilize against the US dollar at 1.06 in the second half of 2020.

How is the euro expected to perform against the US dollar by December 2021?

The euro is expected to rise modestly from 1.06 at the end of 2020 to 1.10 by December 2021, benefiting from increased confidence in the global economy led by China and the rest of Asia.

What is the forecast for sterling in comparison to the euro?

Sterling is likely to experience a similar lift to the euro, with the spectrum of risks skewed to the upside due to the US economy reopening while COVID-19 is still prevalent, risking multiple waves of the virus and associated policy missteps.

Why has the yen been acting as a safe haven currency recently?

The yen has been acting as a safe haven currency recently due to the stark contrast between the COVID-19 situation in Japan and the US, with Japan reporting only 51 new cases compared to almost 26,000 in the US. Additionally, Japan's limited ability to aggressively expand asset purchases compared to the US FOMC's response has favored the yen.

What are the medium to long-term economic growth prospects for Japan compared to the US and Europe?

Japan's medium to long-term economic growth prospects are weaker than those of the US and potentially Europe.

How is China's renminbi expected to perform relative to the US dollar index (DXY) in 2021?

China's renminbi is expected to appreciate by more than twice the fall forecasted for the DXY US dollar index.

What is the primary reason for the positive outlook on the euro and sterling?

The primary reason for the positive outlook on the euro and sterling is the expectation that Europe and the UK will benefit more from the global economic recovery led by China and the rest of Asia, as Asia is a key source of demand for their industrial and consumer-centric exports.

What has been the impact of the Bank of Japan's policy easing over the past decade on the yen's performance?

The Bank of Japan's policy easing over the past decade has left little room for further aggressive asset purchases, which has favored the yen as a safe haven currency in the near term despite Japan's weaker long-term economic growth prospects.