Euro – Best Day in 5 Months (US GDP Overshadows ECB)
EUR/USD logged its best day in 5 months as US GDP overshadowed the European Central Bank’s monetary policy announcement. According to the latest report, the U.S. economy grew by only 2% in the third quarter, which was the weakest pace of growth since the pandemic induced global shutdown in second quarter of 2020. That was when GDP dropped a staggering -31.2%. Economists were looking for GDP growth of 2.8%, which is a significant slowdown from last quarter’s pace but 2% misses all of the marks. Business investment, government spending and trade contributed to the decline but consumer spending had the most significant impact on growth. Supply chain disruptions hampered product availability, while concerns about the Delta variant reduced activity in restaurants, factories and stores. With the market fully pricing in taper by the Federal Reserve, today’s GDP report confirms that Chairman Powell will most likely downplay rate hikes next week. Earlier this month, he said point blank, “I do think its time to taper and I don’t think its time to raise rates.” We firmly expect the Fed Chair to repeat this line at next week’s FOMC meeting. The U.S. dollar sold off across the board in the NY session.
Euro was the biggest beneficiary of U.S. dollar weakness and the lack of demand for the greenback was the only reason for the currency’s rise. The ECB left monetary policy unchanged, but unlike their global counterparts, they are less worried about inflation. According to ECB President Lagarde, “We did a lot of soul searching to test our analysis and we are confident” that the surge in inflation will prove temporary, though “it will take a bit longer than expected.” She also pushed back on the market’s expectations for an interest rate increase next year. Lagarde said, “Our analysis certainty does not support that the conditions of our forward guidance are satisfied at the time of liftoff as expected by markets, nor any time soon thereafter.” Unlike many other central banks who have reduced stimulus, ending their quantitative easing programs or raised interest rates, the ECB is making it very clear that they are looking the other way on inflation. This should have driven euro lower but the single currency has been underperforming in recent weeks and the sell-off in the dollar today triggered a massive short squeeze in EUR/USD.
Friday is another busy day in the markets with third quarter GDP and October CPI numbers due from the Eurozone. The U.S. releases the Fed’s favorite inflation measure, the PCE deflator along with personal income and spending. With such important releases on the docket traders should expect more volatility in the single currency. The Australian and Canadian dollars will also be in focus with Australian retail sales and Canadian GDP numbers due for release. Despite the Bank of Canada’s hawkish announcement on Wednesday, the Canadian dollar is the laggard today. Its gains against the greenback paled in comparison to other major currencies like AUD, NZD, EUR and GBP.
Managing Director of FX Strategy BK Asset Management