Dollar Index on track to post its biggest weekly loss since last November - BBH

Analysts at BBH note that the dollar is softer against most of the major currencies to cap a poor weekly performance as the Dollar Index is posting what may be its biggest weekly loss since last November.  

Key Quotes

“The combination of the Federal Reserve not signaling an acceleration of normalization (even as the market remains profoundly skeptical of even its current indications) and perceptions that the ECB and BOE can raise rates earlier than anticipated weighed on the dollar.  The PBOC surprised many by lifting some operational interest rates.  It also contributed to the sense that the divergence theme has run its course.”

“We are somewhat skeptical of the sustainability of that new narrative, but recognize it has emerged while the short-term market was carrying significant long dollar (and short Treasury positions).  We expect EMU headline inflation to peak in the coming months.  Similarly, we expect UK data to soften and not give the MPC a compelling reason to lift rates.  Next week, numerous Fed officials are speaking, including Yellen.  Given the market's reaction to the statement and forecasts, it would not be surprising to see some push against the dovish hike interpretation.”

“Comments from Austrian central bank governor Nowotny showed where the ECB hawks are trying to lead.  The argument is that the US sequence of finishing QE before increasing rates may not be suitable for Europe.  Nowotny went a little beyond earlier comments to suggest that not all rates would necessarily rise.  The deposit rate, for example, could be raised without having to lift the refi rate.  EONIA would likely adjust to such a development.”

“Nowotny's comments reinvigorated the euro's advance.  The single currency is rising for a third straight session, the longest streak since late January.  It is the third weekly advance.  The euro is approaching the early February high near $1.0830.  Above there is the high from the ECB's December meeting and the taper and extension, set near $1.0875.  The two-year rate differential has narrowed nine basis points this week to one-month lows (2.09%).”

“In addition to Forbes and Nowotny, US Treasury Secretary's comments late yesterday were also important, even if the market's response was muted or overshadowed by other developments.  Mnuchin's remarks sounded very much like many of his predecessors and not from an administration that seemed intent on breaking from American tradition.  The US Treasury Secretary endorsed the strong dollar, saying it was good for the US in the long-term.”

“That he recognized that the strong dollar could pose problems in the short-run is not so different from the G7/G20 caution against excessive volatility.  Still, it would be even more helpful if Mnuchin decoupled the strong dollar policy from prices, and endorsed the original intent:   a commitment not to weaponize the dollar, which made possible the new orthodoxy of letting markets determine exchange rates.”

“Mnuchin also seemed to embrace the process that the Treasury Department had developed to determine manipulation in the foreign exchange market.  If the criteria are maintained, it suggests that China will not be cited as a manipulator in next month's report.  Meanwhile, Trump and Merkel will meet, after the initial timeframe for earlier this week had to be postponed due to weather.  Trump has been critical of Germany and Merkel personally.  Trump's protectionist rhetoric, doubts about NATO, possible overtures to Russia, and efforts to dilute financial regulation don't set well with the German Chancellor.  However, expect a "very good" and "productive" meeting even if not "tremendous."