Draghi dragged EUR/USD down by talking and detailing about downside risks and basically promising action in March. The downside risk for EUR/USD could be limited, at least in time, and could provide a buy opportunity.
In the third week of doom and gloom in financial markets, central banks have begun reacting. First came Carney: the governor of the BOE said that “this is not the time to raise rates” and explained the variety of risks. The pound responded by falling sharply. That was Tuesday.
Then came the Bank of Japan, saying it is watching currency markets and aided by the government’s call for more BOJ action. The safe haven currency seemed to have found its top, with USD/JPY finding its line in the sand at 116. This happened on Wednesday.
And now comes Draghi, talking down the euro, the other safe haven currency and third central bank to act verbally, waning about the situation and opening the door to more loosening. That’s Thursday.
Also China seems to be scrambling around to stabilize the situation. The biggest factor in the recent market turmoil and commodity crash comes from the economic giant, the world’s No. 2 economy.
And what about the US?
The Federal Reserve convenes on January 27th to make its first post-hike decision. No new forecasts and no press conference are scheduled. Nobody expects a rate hike, but hints about a move in March will be sought. In the Fed’s case, the move could be a rate hike.
The reasons for a hike originate from the Fed’s dual mandate: employment looks great and also inflation is picking up.
But can the Fed ignore financial markets? Clearly not. The Fed refrained from a hike in September mostly because of the stock market crash, related to China. In addition, it has also showed sensitivity to stocks in the “taper tantrum” of 2013 and with Bullard’s reaction to a slide in October 2014.
But it’s not only the financial markets: employment and inflation could be lagging. Other figures show a significant slowdown in the US economy and some even use the R word – recession. Employment could react only later.
EUR/USD direction
The world’s most popular currency pair dipped out of the narrow range on Draghi’s words and could even fall lower. However, the Fed could be the next central bank to sound the alarm on downside risks. China, the US oil industry, a weaker Europe and a general dovish and cautious Fed could all lead serve as the reasons for a dovish stance.
The Fed could hint on a big pause in policy, one step before saying that the historic December hike was a “one and done”.
In this scenario, the USD could slide and EUR/USD could party, providing a buy opportunity before the Fed.
What do you think?
