EUR: New Theme Alert – Fiscal Risk Premium

EUR/USD has remained rangebound this week, trading with a slight downward bias within the 1.04-1.05 range, as FX markets largely shrugged off Trump's latest tariff threats after he proposed 25% tariffs on autos, chips, and pharma imports , Danske Bank's FX analyst Mohamad Al-Saraf reports.

Weekly jobless claims are on the agenda

"The January FOMC meeting minutes indicated that as long as the economy remains near full employment, policymakers would need to see further tangible progress on inflation before considering rate cuts. Market reaction was muted, though front-end yields edged slightly lower."

"Today is expected to be another quiet session, with only weekly jobless claims on the agenda. Market focus will shift to tomorrow's PMI releases from the US and euro area, where it will be key to see if momentum builds following January's surprisingly strong euro area PMIs."

"Germany's elections this weekend could gain traction, particularly if a CDU/CSU-led coalition is formed, potentially signalling a shift in fiscal policy that could support Germany's weak growth outlook and, in turn, the EUR. We continue to expect EUR/USD to consolidate around current levels in the near term while maintaining our strategically bearish outlook."

Source: FXSTREET

The US Dollar Index loses ground as yields on US Treasury notes extend their losses.

Trump has confirmed plans to impose a 25% tariff on imports of automobiles, semiconductors, and pharmaceutical products.

The latest FOMC Meeting Minutes emphasized needing more time to assess multiple factors before considering any rate adjustments.

The US Dollar Index (DXY), which measures the value of the US Dollar (USD) against six major currencies, depreciates after registering gains for the last two successive days amid falling Treasury yields. The DXY hovers around 107.00. with 2- and 10-year yields on US Treasury bonds standing at 4.26% and 4.52%, respectively, during the European hours on Thursday.

Market participants are now focused on key US economic data, including weekly Initial Jobless Claims, the CB Leading Economic Index, and the Philly Fed Manufacturing Index, set to be released during the North American session.

However, the US Dollar gained ground as risk aversion rose due to concerns over the latest tariffs from US President Donald Trump, who has confirmed that a 25% tariff on pharmaceutical, semiconductor, and auto imports will take effect in April.

The US Dollar may appreciate as the cautious tone rises following the Federal Open Market Committee (FOMC) Minutes from January’s policy meeting. Federal Reserve (Fed) policymakers reaffirmed the decision to keep interest rates unchanged in January. They also emphasized the need for more time to assess economic activity, labor market trends, and inflation before considering any rate adjustments. The committee also agreed that clear signs of declining inflation are necessary before implementing rate cuts.

Markets are pricing in one rate cut for the federal funds rate in 2025, with the potential for a second. Fed Vice Chairman Philip Jefferson stated late Wednesday that the US central bank has time to assess its next interest rate move, citing a resilient economy and persistent inflation. Meanwhile, Chicago Fed President Austan Goolsbee acknowledged that while inflation has eased, it remains elevated, emphasizing that rate cuts would be considered once inflation reaches a more acceptable level, according to Reuters.

Source: FXSTREET

Source: AP

AUD/JPY loses ground for the second successive day, trading around 95.80 during the European hours on Thursday. This downside of the currency cross could be attributed to the growing acceptance that the Bank of Japan (BoJ) would hike interest rates further.

Additionally, the Japanese Yen (JPY) gains ground as the hawkish Bank of Japan (BoJ) expectations push the Japanese government bond (JGB) yields to their highest levels in more than a decade. The resultant narrowing of the rate differential between Japan and other countries provides an additional boost to the JPY.

Additionally, the AUD/JPY cross depreciates as the risk-sensitive Australian Dollar (AUD) faces challenges, while the safe-haven Japanese Yen gains ground due to a fresh wave of the global risk aversion trade, triggered by US President Donald Trump's tariff threats. Trump confirmed that a 25% tariff on pharmaceutical, semiconductor, and auto imports will take effect in April, further escalating global trade tensions.

The downside of the AUD/JPY cross could be restrained as the Australian Dollar (AUD) gains ground against its peers following the release of domestic employment data. Australia’s seasonally adjusted Unemployment Rate rose to 4.1% in January from 4.0% in December, aligning with market expectations. Additionally, Employment Change came in at 44K for January, down from a revised 60K in December (previously 56.3K), but still exceeding the consensus forecast of 20K.

Reserve Bank of Australia (RBA) Deputy Governor Andrew Hauser stated while speaking to Bloomberg News on Thursday that the central bank’s policy “is still restrictive.” Hauser noted that the latest jobs data showed little cause for concern. Hauser also emphasized that Australia’s monthly CPI data remains incomplete, requiring a wait for quarterly figures to gain a clearer picture. While market expectations suggest three to four rate cuts, the RBA remains uncertain. The central bank’s primary focus is still on inflation, while global economic uncertainty poses potential risks to Australia’s economy.

Source: FXSTREET

Market

German bunds heavily underperformed US Treasuries yesterday. Yields jumped between 4.6 and 6.4 bps in a response to ECB board member Schnabel’s interview with the Financial Times. The influential policymaker isn’t so sure anymore that monetary policy is still restrictive after the January rate cut to 2.75%.

Amongst others she’s referring to the bank lending survey, which shows lending is picking up, and that we are in a situation of transformation (high & rising public debt, huge digital and climate investment needs and increasing global fragmentation) that is reversing the downward trend of the neutral rate. For Schnabel the policy rates’ travel of direction (lower) is therefore no longer that obvious. Her comments have opened up the debate in the long run-up to the March meeting. We expect the rate cut then to be followed by a pause at least through April, ending the back-to-back sequence since September.

US rates declined up to 4.2 bps. The front end of the curve slightly outperformed following the FOMC January meeting minutes even though they only confirmed what Fed officials have been saying over the past few weeks: additional cuts come only when inflation shows further progress. EUR/USD ignored the improving rate differentials and inched lower on a poor (European) equity performance instead. The pair closed at 1.042. JPY secured the first place amid hawkish talk coming from BoJ board member Takata.

USD/JPY eased to 151.5 with losses technically accelerating this morning to 150 as investors brace for tomorrow’s Japanese inflation figures. Comments by BoJ governor Ueda – didn’t discuss rising yields at regular meeting with PM Ishiba – are interpreted as a thumbs up to more rate hikes. UK inflation figures yesterday helped push up gilt yields several basis points even though BoE governor Bailey flagged the CPI quickening a day in advance. EUR/GBP treaded water around 0.828.

Today’s economic calendar is of secondary importance with the weekly US jobless claims and the Philly Fed business outlook. Consumer confidence in the Europe is due. None of those will move the market needle, let alone break the stalemate in (US) bond markets. A slew of ECB and Fed speeches is a wildcard for trading though. President Trump remains a notorious source of volatility. His after-market comments yesterday are a case in point. After slapping China with 10% of import tariffs, he said a deal with the country is still possible. It’s triggered some CNY strength this morning (USD/CNY 7.27).

News & Views

The Australian unemployment rate in January rose from 4.0% to 4.1%, the country’s statistics bureau ABS reported, but underlying dynamics in the labour market remain strong as the rise coincided with a rise in the participation rate. The latter reached a record high of 67.3%. It is now 0.8% higher compared to the same month last year and even 1.8% higher compared to March 2020, before the start of the corona crisis. Employment in January rose a much stronger than expected 44k, due to a rise in full employment. ABS also analyses that “The trend unemployment rate remained at 4.0% in January.

It has been within a relatively narrow range of 3.9 and 4.1% for the past 12 months. In trend terms, employment grew by around 34k people (0.2%), which was at the same rate as the 20-year pre-pandemic average (0.2%).” Ongoing solid labour market data confirm the guidance of the RBA that even after starting its easing cycle with a 25 bps rate cut (to 4.10) earlier this week, that it is too early to engage in a protracted rate cut cycle. In this respect, RBA Deputy Governor Hauser this morning repeated that the RBA still has work to do to bring inflation back to target. He indicated that the RBA probably won’t meet its inflation target if it were to follow the rate cut path currently discounted by markets.

The British Retail Consortium consume confidence indicator for the country declined further. The balance indicator declined to -37, the lowest level since the new Labour government took office. It was at +2 when the government took office last year. Half of the Brittons expect the economy to worsen in the next three months with only one-in-eight expecting a pick-up.

“With many businesses warning of the impact that April’s employer national insurance contributions increase will have on hiring, and the rising energy price cap pushing up the cost of domestic bills, it is little surprise that many households are worried,” Helen Dickinson, chief executive of the BRC is quoted.

Source: ACTIONFOREX