The trigger for the change of narrative was that Jerome Powell’s said that a recession is possible at his semi-annual testimony, the most explicit acknowledgement yet that a soft-landing in the US is going to be very challenging.
Powell suggested that the Fed had been too slow to act and that rates will continue to rise in the near future, just perhaps not as far as previously expected.
Rapidly plunging oil and commodity prices are representative of recession fears as monetary policy tightening across the globe slows economic activity by destroying demand.
Copper in particular has dropped 20% from its recent high. The fact that copper is dropping indicates the markets are worried drop in demand from the electronics industry where copper is an important component of chips and network cables.
In the mid-term this may be negative for commodity exporting currencies such as the Australian and Canadian dollars and Mexican peso.
The idea that the recession or Fed rate hikes are going to end soon is negative for the US dollar – hence the pullback from 105.00 for the dollar index.
The pull back in the US dollar on recession fears has helped the Japanese yen back up from a 24-year low against the US dollar, as the Bank of Japan’s recent unwillingness to raise rates versus a gung-ho Federal Reserve aiming to slow soaring inflation.
However, the yen is the only major currency that has lost more than 18% of it’s value against the dollar in 2022.
The Bank of Canada has repeated its plan to raise interest rates, but that hasn’t resulted in a boost for the Canadian currency given the steep sell-off in energy prices.
The drop in oil prices and natural gas prices has been a significant headwind for the Loonie, as has recent slowdown concerns. These two factors have started to weaken the fundamental narrative of Canada’s economy.
Inflation in the UK has hit a 40-year high. However despite hawkish comments (desire to raise interest rates) from Bank of England policymakers the pounds has fallen stradily all year. The market seem to doubt the ability or resolve of the BoE to raise interest rates further in the near future to tackle surging inflation.
AUD/USD has dropped back below 0.6900 as recession fears flare up. The Aussie was at this level mid-May before going on a roller-coaster ride above 0.72 and back again.
Minutes from the June meeting of the Reserve Bank of Australia (RBA) indicated they clearly have some way to go in raising rates which should help the Aussie as the year plays out.
The Swiss National Bank surprised markets with a 50 basis point rate hike last week pushing up CHF/USD.
A stronger CHF would help with fighting imported inflation which is a major global concern given surging commodity prices.
As the CHF is getting stronger, food and energy prices in Switzerland should go down compared to other countries.
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