The Week Ahead: TAG, You’re It!

Foreign Exchange: The Week Ahead
TAG, You’re It!
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Analyst
In September, at the US-Japan trade summit, the two countries agreed to engage in new trade talks and work towards a US-Japan trade agreement on goods (TAG).  Notably, both sides have agreed not to impose measures against the spirit of the talks, implying that the US will not be applying automotive tariffs while talks are ongoing.  However, it should be noted that there is little scope for additional agricultural purchases from Japan.  Additionally, Japan already has no vehicle tariffs or substantial non-tariff barriers, meaning that TAG is unlikely to reduce the US-Japan trade deficit. 

Therefore, if talks start in January as expected, the currency markets will most likely not be focused on TAG's potential impact on Japan's economy.  Instead, focus most likely will be on whether or not TAG will include foreign currency clauses along the lines of what has been included in USMCA.  In the Treasury Department's most recent currency report, it noted that the US would consider adding similar clauses to future US trade agreements. 

On this front, there is the possibility for this to become a contentious issue.  Japan has not intervened in the currency markets since 2011.  Moreover, past trade agreements, including the Trans-Pacific Partnership Agreement, illustrates Japan's preference to separate trade and currency policy. 

Beyond a general preference to detach the two conversations, Japanese officials are also likely concerned about yen appreciation as market confidence in BoJ officials to manage sharp appreciation has waned.  This implies such a clause could spur yen buying as market concerns get enhanced.  Ultimately, most of the measures in foreign exchange clauses—avoidance of competitive devaluation, transparency in reserve reporting, etc.--are fairly standard and wouldn't change Japan's current policy. 

MAJOR CENTRAL BANK ACTIVITY THIS WEEK

12/18 Thailand Expectations for rates to rise .25% to 1.75%
12/19 U.S.A. Expectations for rates to rise .25% to 2.50%
12/19 Japan Expectations for rates to remain unchanged at -0.10%
12/20 U.K. Expectations for rates to remain unchanged at 0.75%
12/20 Mexico Expectations for rates to rise .25% to 8.25%

KEY MARKET MOVING ECONOMIC RELEASES

United States and Canada

12/17 Empire Manufacturing Expectations for a 20.0 print
12/18 Housing Starts Expectations for a 1.23 million print
12/19 Existing Home Sales Expectations for a 5.20 million print
12/20 Initial Jobless Claims Expectations for a 219K print
12/21 3Q GDP Annualized Expectations for a 3.5% print
12/19 CA CPI YoY Expectations for a 1.8% print
12/21 CA GDP YoY Expectations for a 2.2% print

Europe/Eurozone

12/17 EZ CPI YoY Expectations for a 2.0% print
12/19 U.K. CPI YoY Expectations for a 2.3% print
12/21 U.K. 3Q GDP YoY Expectations for a 1.5% print

Asia/Japan, and New Zealand

12/18 JP Trade Balance Expectations for a 630 billion yen deficit
12/20 JP National CPI YoY Expectations for a 0.8% print

FORECASTS

EUR

The EUR moved down to near its 1 year low this past week.  ECB President Draghi noted downside risks in his speech, which was the catalyst for the euro to move down.  Subsequent economic data showing softness in Germany, France and other areas of the EZ only confirmed these concerns.  Moreover leading indicators are indicating a continuation of this softness.  The Fed's meeting this week will be key.  Markets are expecting a hike so interest will be focused on forward guidance and signs of a dovish turn.  Brexit and Italian budgetary issues remain negatives.  Expect more short term volatility and the euro to remain pressured downwards.  

GBP

The GBP has displayed extreme volatility over the past month with wide ranges but little to show for all the price action. This all changed this past week after PM May delayed the meaningful vote and faced a vote of no confidence.  All of this caused the GBP dropped to a new 1 year low.  While PM May survived the vote of no confidence, the difficult task of passing the Withdrawal Agreement remains unchanged, implying continuing headline risk.  Ultimately we expect ratification but a bumpy road leading up to this.  Expect a continuation of elevated volatility.   

JPY

The JPY traded in a 1 yen range last week, finishing the week at the upper-end of the range as US yields rose.  Interest rate differentials between the US and Japan remain key, so keep an eye on the Fed and BoJ meetings this week. With rate action for both banks well priced in, the focus will be on forward guidance.  Additionally, Japan's current account surplus came in 40% less than its corresponding month the prior year, helping to push the JPY weaker.  A combination of US equity fallout and the flattening and inverting of the US yield curve have squeezed JPY short positions.  Continue to expect the JPY to have an inverse relationship with risk sentiment.  With equity volatility high and the possibility of a dovish Fed could lead to JPY strength.   

CAD

The CAD has been in a short term bear trend since oil prices peaked at the beginning of October and that trend has continued this past week with oil prices continuing to fall.  The CAD spent last week in a bit of lull after a sharp BoC repricing the prior week.  CPI, and GDP prints will be important this week.  While we expect the BoC to broadly keep pace with the Fed, the expectation for the BoC's first hike of 2019 has been pushed out.  Market psychology continues to be short term negative but we continue to expect the CAD to strength in 2H2019.  

CNY

Trade tensions eased further as China purchased more agricultural products and temporarily reduced auto tariffs, causing the CNY to rally.  Moreover, China has indicated a willingness to change some of its tech focused plans.  However, bad economic data at the end of last week resurfaced concerns over a Chinese slowdown that had been masked by accelerated orders pulling ahead business in an effort to avoid tariffs.  Expect further stimulus measures from China in the coming weeks to support growth but remain skeptical of positive trade headlines.  The issues at hand are difficult to solve and a near term solution is likely difficult.  The currency remains trapped within recent ranges – expect more of the same this week.

AUD

The AUD broke out of its range bound trading to the downside at the end of last week as Chinese data came in weaker than expected.  Additionally, a significant drop in home values and a slowing of projected GDP growth reconfirms that the RBA will be on hold for the foreseeable future.  Overall, it appears the currency is trying to bottom but expect more sideways trading this week.
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