USD outperformance expected in H1 - ANZ

Repricing of US interest rate expectations can support the USD and firming investment spending should help lift US productivity growth, according to Philip Borkin, Research Analyst at ANZ.

Key Quotes

“Against a backdrop of solid growth, some important influences for EUR/USD in 2018 are: the path of inflation; the anticipated path of monetary tightening and the evolution of financial market volatility.” 

“Currently, the market is pricing in 38.5 bps tightening for 2018 in the US and a further 12 bps tightening in 2019.” 

“We forecast that the FOMC will raise rates by 75 bps next year and a further 25 bps in 2019. That means scope exists for markets to reprice monetary expectations in favour of the USD as real interest rates rise.” 

“Our more acute expectation for US policy rates is based on the view that US inflation is normalising towards target and that wage pressures will intensify.” 

“Average earnings growth is expected to move above 3.0% y/y. By contrast, European inflation is expected to remain significantly below trend (1.2%).” 

“Meanwhile, the ECB has indicated that it will adapt QE purchases as needed if financial conditions tighten in a way that could undermine a medium term recovery in inflation. The euro will have a significant role to play in that assessment.”

“The dollar could also benefit from changes in the composition of growth, as tight labour markets underpin higher levels of capital investment. That should help support higher levels of productivity growth.” 

“We see these influences as particularly supportive of the USD in the first half of 2018, a period when euro area inflation may be particularly low and prior to the end of the current QE extension from the ECB.”