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Currency Market Analysis

Jan 15, 2020 | Currency Market Analysis

Global Themes

Kiwi tires ahead of US/China trade deal

• All eyes on China’s commitments
• US wage earners no better off
• Chinese imports surge in December

All eyes on China’s commitments

NZD/USD drifted overnight despite stock markets hitting fresh record highs. A number of US banks reported solid 2019 earnings, but the real reason the equity market is getting frothy is due to the pending ratification of the US/China trade agreement. Reports from Politico yesterday suggested that China might commit to buying $200B of US goods over a period of two years across four industries. That would certainly be a "win" for President Trump to take home.

Speaking at the Asian Economic Forum on Monday meanwhile, former Fed chair Janet Yellen said the agreement looked likely to leave a 25% tariff in place on $370B of Chinese goods and that would mean that the “Phase One” agreement wouldn’t be “very noticeable” for the US consumer. She also suggested the agreement won’t solve the underlying conflict over intellectual property and technology transfers, with the rise of 5G communication and artificial intelligence likely to be a source of ongoing tension. We couldn’t agree more, and perhaps with that wry outlook currency markets are growing weary of this glossy trade deal. Certainly NZD/USD is struggling to make further gains despite the backdrop of market positivity.

US wage earners no better off

US inflation data came in at a solid 2.3% overnight, mildly below expectations for a 2.4% print, but still well above the Federal Reserve’s 2% target. On the surface of it that’s likely to steer the Fed closer to a rate hike this year, but the market implied probability now shows a 38.9% chance of rates remaining on hold until year end, with just a 6.7% chance of a hike and a 54.4% chance of at least one cut (source: CME Group’s Fedwatch tool). That’s largely because real wage inflation was flat on the year. Or in other words wage gains have moved in line with inflation meaning the US worker is no better off than this time a year ago.

That’s not just a cause for concern for the Fed but for all central banks at present. It’s hard to see consumer price inflation rising significantly when real wage inflation is flat to negative in some countries. On the brighter side it is also a reason company earnings are doing well lately. Low interest rates and low wages make for good business. Locally we have had a series of forced wage rises as the government took it on themselves to raise the minimum wage and improve the plight of the lowest earning workers. The real question is whether the increased earning power translates into higher consumption. Certainly there are some signs that lower borrowing rates and the higher minimum wage are feeding into the real economy and that can be NZD supportive this year, particularly against the AUD, given the Aussies are struggling to boost both wage inflation and domestic consumption.

Chinese imports surge in December

Here’s another reason to be more positive about Kiwi pairs in 2020: Chinese imports were up 17.7% on the year for December, the biggest rise since October 2018. As the largest buyer of our exports that’s great news for the New Zealand economy and can be Kiwi supportive should it continue this year. The underlying real trade is likely to have been a source of the NZD’s climb across December. Meanwhile, the Yuan got a 300 point boost on open yesterday and NZD/CNH fell further overnight. That’s only likely to make NZ goods cheaper to buy and exacerbate this trend.

Today is rather quiet in terms of data releases but tonight we do get the latest inflation print for the UK. If that is soft expect the Bank of England rate cut calls to grow louder and the Pound to face renewed selling pressure. But all eyes are on Washington for the rest of this week. Can a trade deal be the shot in the arm Kiwi importers need or will it be the case of “sell the rumour, buy the fact“? Ultimately the devil will be in the detail.

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