FX Weekly Preview: US Soars while Rivals are Hobbled

United States

To date, the Fed officials that have spoken about the economic impact of the coronavirus, most seem to see limited direct impact.  It does not appear to have been a sufficient shock (yet) to change their economic assessments, even if some multinational companies are affected.  Fed Chair Powell can give the central bank’s policy as help keep the economic expansion moving forward despite the global challenges.  The increase in the labor force participation rate (63.4%), the highest since 2013, suggests the Fed is right that there is more slack in the labor force.

The data due out next week are unlikely to move the needle either.  Headline and core CPI are running a little north of 2%, but the Fed targets headline PCE deflator and talks about the core deflator.  Both of which have converged at 1.6% at the end of 2019.  The Fed’s downgraded its assessment of consumption, for which the retail sales report covers a little more than 40%.  Retail sales rose by 0.3% each month in Q4 19 and are expected to have increased by the same amount in January.

As in other countries, the US industrial sector is facing headwinds. Consider that industrial output fell in four of the last six months of 2019. Indeed, last year it fell by almost 0.1% a month after rising at an average pace of 0.3% in 2018. The new year is off to a soggy start. The median forecast in the Bloomberg survey anticipates a 0.3% decline that would match the December report.  Manufacturing output also fell by an average of 0.1% last year but has fared a bit better recently, increasing by 1.0% and 0.2% last November and December.  It is projected to be flat, but the risks seem to be on the downside. Manufacturing lost 12k jobs in January, marking the third decline in four months.

While the dramatic equity recovery is capturing the headlines and imaginations, the greenback as begun the year with a bang. Through the first full week in February, it has gained more than 2% against all the major currencies save the Swiss franc and yen. Both of them have fallen by more than 1%. In cold realpolitik Machievelian terms, the US’s chief geopolitical rival has experienced a negative shock that will weaken its economy, undermine is soft power, and setback its projection of power on the world stage.  Business thinking about relocating production due to the “forever tariff war” with the US may be pushed further along this path by the coronavirus, and deep-seated suspicions, as this was the not first, it probably will not be the last coronavirus to emerge from China.

Economic Events: United States, Week February 10

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Eurozone

Europe and Japan need stronger global growth conditions than the US.  Europe is more reliant on exports than the US (or Japan, for that matter). At the low end are countries like Italy and France that export a bit more than 30% of GDP. Germany exports almost 50% of everything it produces. The Netherlands exported 85% and Belgium nearly 83% of GDP, according to the World Bank, in 2018.  And then there is Luxembourg, which exported over 200% of GDP, and Ireland, who exported 122% of GDP. Of course, this probably overstates the case due to tax arbitrage games.

Still, German factory orders were a big miss last week. The median forecast in the Bloomberg survey called for a 0.6% increase in December, and instead, they dropped by 2.1%. It was the weakest report in 10 months. It was notable, however, that domestic orders rose by 1.4% on top of the 1.3% increase in November. It was the third increase in the last four months of 2019.

The weakness came from foreign orders. Here is the good news/bad news story. The good news is non-EMU orders increased by 2.1%. It followed two months in which their orders had fallen by a combined 5.5%. The bad news is that other countries in the eurozone were the culprit. They plummeted 13.9%, after a 2.4% decline in November. Adding insult to injury, the decline in orders was concentrated in capital equipment, which speaks to business investment and increasing growth potential.

The simply dreadful December industrial production figures from Germany, France, and Spain warn of downside risks when the aggregate data are published next week. In fact, the data as to rekindle fears of a new contraction in Q1. On a month-over-month basis, economists expected German and French industrial output to fall by 0.2% and 0.3%.  Instead, declines of 3.5% and 2.8% were reported, respectively.  Economists expected Spain’s industrial production to have shrunk by 0.9% and instead contracted by 1.4%.  Spain and France also reported downward revisions to their November reports.

The outbreak of the coronavirus means that Q4 data is too historical to matter to most central banks, and even January data may not satisfactorily reveal the extent of disruption.  This is especially true of China itself, whose data has not yet won investors’ confidence in the first place.  The data is often distorted in January and February due to the Lunar New Year holiday in any event.

Economic Events: Eurozone, Week February 10

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Japan

Maybe Japan is an exception to this generalization. First, the official estimate of Q4 GDP is not due out until February 17 in Tokyo, but between the tax increase and typhoons, there is no doubt the economy contracted steeply in Q4.  The median forecast in the Bloomberg survey stands at -1.0% quarter-over-quarter.  Second, Japan exports account for less than a fifth of GDP, but for a country whose population is shrinking and household spending even before the tax hike was lukewarm at best, the knock-on effect could be severe.  It is not only Japan’s goods exports to China, but foreign tourism is counted as the export of services in the national accounts.   This means that it does not have to be a particularly strong shock to push Japan into a contraction in Q1 20, which be the second contracting quarter, meeting the rule-of-thumb definition of a recession.

Arguably, the most critical data point from Japan in the week ahead is the preliminary estimate of January machine tool orders.  They rose 10% in December, which included a 5% increase in foreign orders.  Yet orders from China had fallen in November and December (by 2.8% and 7.6%, respectively). Orders from the US rose by 16.1%, but orders from South America surged by 44%, led by Brazil.

Economic Events: Japan, Week February 10

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United Kingdom

The UK’s data from the end of last year, including the first look at Q4 GDP (expected to have contracted slightly after a 0.4% expansion in Q3), is dated, not so much because of the pathogen, but because of the election that ended immediate uncertainty.  This has led to a jump in business sentiment indicators.  In contrast to the soft US and European industrial sectors, the UK’s industrial production likely expanded in December.  Still, it must be understood within the context of the  1.2% decline in November.

The stronger UK data, however, has not translated into strength for sterling.  It was the weakest of the major currencies last week, losing about 2% against the dollar and 0.8% against the euro.  The opposing positions between the UK and EU and the immediate resort to ultimatums brought to the fore a point we have underscored: There is a material risk that the standstill period ends without the UK and EU reaching an agreement, leaving the “Australian alternative” which is little more than the WTO agreement.

Economic Events: United Kingdom, Week February 10

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