USD: Tide of sentiment has turned against the dollar – BBH

According to analysts at BBH, he enthusiasm seen in the second part of last year, when the real broad trade weighted dollar rose in seven of the last eight months, have been put into reverse.  

Key Quotes

“This measure of the dollar is set to record its seventh consecutive monthly decline this year, among the longest such runs in the modern era.”

“The tide against the dollar is both political and economic.  At the start of this year, many feared the populist-nationalist wave, which was seen as on its way to Europe after sweeping the UK out of the EU and Trump into the White House.  As we anticipated, Europe has turned back the populist threat at every opportunity.  The political anxiety has been deflected back to the US, where distractions, inexperience, and/or incompetence have frustrated the legislative process despite one party enjoying a majority in both houses of the legislative branch and control of the executive branch.  Also, with a UK snap election called after repeated denials and an unexpected outcome, UK politics is anything but settled as the Brexit countdown continues.”    

“Leaving aside the filibuster rules that require 60 votes to proceed, the Republicans failed to marshal a simple majority to repeal and replace the national health care system, despite several years of critiquing it. The health care reform was initially also intended to help fund tax reform.  Nearly $1 trillion was expected to have been saved.  Last week saw the House leadership finally drop its insistence of a Border Adjustment Tax (BAT).  The controversial tax was supposed to free up another trillion dollars to fund tax reform.  With those two pieces gone, the prospect of tax reform diminishes.”

“Tax cuts are still possible, but if by CBO's reckoning that the tax cuts will increase the debt level in a decade, then a 60-vote majority is needed.  The Bush Administration's work around was to make the tax cuts temporary.  When those tax cuts expired, the country contended with a "fiscal cliff" and what felt like tax increases.”  

“Still, it is not clear that the current leadership can bridge the chasm between its conservative and moderate wings to agree to cut taxes.  The basis for an agreement would likely mean that the tax cuts are fiscally neutral, which in turn could limit the stimulative impact.  Moreover, without tax reform, the tax holiday to encourage repatriation of earnings held offshore would simply keep the cycle going, whereby mostly the same industries accumulate earnings offshore and wait for the inevitable break.  By seeking to tax some of those earnings, Ireland has added pressure to reform the US approach to corporate taxes.”

“This leaves the US economy expanding around trend (~1.8%).  The labor market continues to improve as the job creation has accelerated after a slow start to the year.  Productivity growth is weak, and apparently without an immediate solution, and labor costs increases are also subdued.  This was underscored by the disappointing 0.5% increase in the Q2 Employment Cost Index, released before the weekend.  The expected 0.3% rise in average hourly earnings will not be sufficient to avoid the year-over-year pace slipping back to 2.4%, the lower end of a two-year range.  The last time it was weaker was in September 2015.”

“Barring a significant upside surprise, the jobs report is unlikely to increase the risk of a September hike by the Fed or spur sharp backing up of long-term rates.  Given the poor sentiment and interest rate backdrop, the dollar may struggle to sustain more than shallow bounces.”