FX Watch
Group Economics Macro & Financial Markets Research
05 February 2016
ECB fall-out for European FX Georgette Boele
• More monetary policy easing by the ECB will cause a reaction from…
Co-ordinator FX & Precious Metals
• …other central banks in Europe such as Sweden, Norway, Denmark,
Strategy
Switzerland, Czech Republic, Poland and Hungary
Tel: +31 20 629 7789 georgette.boele@nl.abnamro.com
• They rely on trade with the eurozone and have low inflation… • … so they cannot afford currency strength • The Norges bank will likely cut interest rates in March… • …while the Riksbank could intervene in FX markets • SNB and CNB will likely continue their interventions… • Highly dependent on the eurozone In this FX Watch we focus on the behaviour of central banks in Switzerland, Sweden, Norway, Denmark, Czech Republic, Poland and Hungary. These economies depend for a large part on the fortunes of the eurozone economy, because the eurozone is their main export destination.
Exports to the eurozone as % of total %
Czech exports Hungarian exports Polish exports Norwegian exports Swedish exports Danish exports Swiss exports 0
10
20
30
40
50
60
70
Source: IMF DOTS
For Switzerland, Sweden, Norway and Denmark the percentage is between 30-50%, while for the Czech Republic, Hungary and Poland this percentage is even higher at 60%. It is in the interest of these countries to avoid sharp appreciations of their currencies versus the euro in order to keep their exports competitive.
Insights.abnamro.nl/en
2
FX Watch - ECB fall-out for European FX - 05 February 2016
In addition, many of these economies are experiencing very low inflation (see graph below) or deflation and cannot afford disinflationary pressure.
CPI headline and core % YoY
Norway Hungary Denmark Czech Republic Sweden Poland Switzerland -2
-1 Core
0
1
2
3
4
Headline
Source: Bloomberg latest data
Central banks of these countries are closely following the outlook for their economies, strength in their currencies and the behaviour of the ECB. In general, these central banks have conducted various ways of monetary policy easing, as some have intervened in currency markets while others have tried indirectly to influence currency valuations by cutting interest rates and/or by quantitative easing.
Managed foreign exchange regimes are an option… Three countries in our focus have a “managed” foreign exchange regime namely Denmark, the Czech Republic and Switzerland. Denmark has conducted a fixedexchange-rate policy since the early 1980s, with the krone (DKK) initially fixed against the Deutschmark and then against the euro (see box 1 at the end of this report). There is the obligation to intervene by the central bank and the ECB if EUR/DKK reaches a fluctuation limit. In 2015, the central bank of Denmark intervened heavily in currency markets to defend its peg. As a result, FX reserves rose sharply.
FX reserves Denmark Bn DKK
800 700 600 500 400 300 200 100 0 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 Source: Thomson Reuters Datastream, Danmarks Nationalbank
However, during the course of 2015, its reserves fell back to the level of before the interventions. In addition, the central bank raised interest rates by 10bp to -0.65%
3
FX Watch - ECB fall-out for European FX - 05 February 2016
(certificates of deposit) on 7 January. As a result, it is one of the few central banks in the world that has tightened monetary policy. Its action is somewhat surprising compared to behaviour of other central banks. This signals that there has been a downward pressure on the DKK versus the euro like other Scandinavian currencies. We judge that disappointing ECB action in December has been a key factor resulting in an upward pressure of the euro against a number of currencies including the krone. To tackle this and to keep the DKK within the band, the central bank has used part of its FX reserves and increased interest rates. So the FX reserves fluctuate with the pressure on the DKK.
‌but result in a sharp rise in FX reserves as percentage of GDP‌ This is different for countries that pursue a less tight FX regime but still have the aim to influence the exchange rate like the Czech Republic and Switzerland. Unlike the FX reserves in Denmark, that of Czech Republic and Switzerland seem on an ever rising trend as percentage of GDP (see graph below).
FX reserves as % of GDP In %
100 80 60 40 20 0 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 Switzerland
Denmark
Czech Republic
Source: Thomson Reuters Datastream, central banks of countries above
FX reserves Czech Republic Bn CZK
1,800 1,600 1,400 1,200 1,000 800 600 400 200 0 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 Source: Bloomberg, CNB
Since 7 November 2013, there is in place a floor in the exchange rate of the euro versus the Czech Koruna (or a cap on the Koruna versus the euro) at 27.0 (CZK 27 per 1 EUR). The main rationale for the central bank (CNB) has been to avoid deflation. However, the side-effect has been a sharp rise in the FX reserves, because the CNB intervenes in FX markets to defend the floor (selling CZK and buying EUR). This trend will continue as long
4
FX Watch - ECB fall-out for European FX - 05 February 2016
as the upward pressure on the CZK persists and could even intensify if the Czech economy continues to grow faster than the eurozone economy. A year ago, Switzerland abandoned its floor in EUR/CHF which sent shock waves through currency markets. Since then the Swiss franc has been on a slow downward trajectory versus the euro. With uncertainty in financial markets this downward trajectory in the Swiss franc has not come naturally. In fact, the sharp rise in FX reserves in Switzerland signal that FX intervention by the Swiss National Bank (SNB) has been the major driver behind the weakening of the Swiss franc versus the euro.
FX reserves Switzerland Bn CHF
700 600 500 400 300 200 100 0 98
00
02
04
06
FX Reserves in CHF
08
10
12
14
16
SNB Assets in CHF
Source: Bloomberg, SNB
The SNB is very reluctant to cut interest rates further into negative territory. Therefore, FX interventions appear to be the favourite tool. However, one of the reasons to abandon the floor in EUR/CHF at 1.20 last year was that FX reserves had become too large compared to GDP. The ending of the floor in EUR/CHF did not stop the upward trend in FX reserves as percentage of GDP in 2015 (graph above).
SNB FX Reserves’ composition Bn CHF
70 60 50 40 30 20 10 0 06
07 EUR
08
09 Other
10
11
USD
12 CAD
13
14 JPY
15
16
GBP
Source: Bloomberg, SNB
‌while easing monetary policy and flexible exchange rates have benefits The central banks of Sweden, Norway, Poland and Hungary have taken a different approach compared to Denmark, Czech Republic and Switzerland. They have allowed their currencies to float more freely versus the euro, (Sweden appears to be tempted to
5
FX Watch - ECB fall-out for European FX - 05 February 2016
intervene in FX markets though), and their FX reserves have not risen sharply and have remained modest as percentage of GDP. Some countries have even seen a weakening of their currencies versus the euro because of external factors. For example, the Norwegian krone has weakened sharply on the back of oil price weakness. However, expectations of more monetary policy easing have also negatively affected the krone. The Polish zloty also weakened considerably. There are fears among investors that Poland is moving towards a Hungarian-style political regime and this weighed on the zloty.
FX reserves as % of GDP In %
60
40
20
0 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 Norway
Sweden
Poland
Hungary
Source: Thomson Reuters Datastream, central banks of countries above
How will central banks react to more ECB easing? Our base case is for the ECB to lower the deposit rate by 10bp in both March and in June to -0.5% and to increase the asset purchase program by 10bn in March. How the above mentioned central banks react to more easing from the ECB depends on the reaction of the euro versus their currencies. If oil prices consolidate in the near-term and start to rebound during the course of this year, the Norwegian krone will likely strengthen as well. This may come too late for the Norges Bank as the oil price weakness of the last year and a half is still working its way through the economy. Therefore, a 25bp rate cut to 0.50% on 17 March is increasingly likely. The Riksbank would like to avoid that the improvement in the inflation outlook is arrested by a stronger Swedish krona. It is prepared to make monetary policy even more expansionary. The Riksbank has been focussed on intervening in currency markets mainly because official rates have already been cut to negative territory. The repo rate currently stands at -0.35% and it announced additional purchases of government bonds during the first half of 2016. If the krona were to profit from ECB monetary policy easing, the Riksbank will likely attempt to weaken the krona via FX interventions. This will result in an increase of their currency reserves, which are not excessive. The SNB and the CNB will likely continue their strategies of weakening the Swiss franc (SNB) and capping the Czech Koruna (CNB) despite the sharp rise in FX reserves. There comes a point though that this strategy for Switzerland is not serving its purpose anymore or that the rise in FX reserves is no longer desirable. Then it could abruptly stop
6
FX Watch - ECB fall-out for European FX - 05 February 2016
intervening. In the case of the Czech Republic we expect the floor in EUR/CZK to remain in place this year. Finally, it is likely that in Poland and Hungary central banks keep their monetary policy loose for longer.
Box 1: Denmark’s FX regime Currently three countries have a fixed foreign currency regime namely Denmark, the Czech Republic and Switzerland. Denmark has conducted a fixed-exchange-rate policy since the early 1980s, initially against the Deutschmark and then against the euro. The formal framework for the fixed-exchange-rate policy is the European Exchange Rate Mechanism, ERM2. The central rate is 746.038 krone per 100 euro and an ERM fluctuation band of +/-2.25%. This means that the krone can only fluctuate between 762.824 per 100 euro and 729.252 per 100 euro. Since the late 1990s, the central bank has stabilized the krone at a level closer to the central rate. There is the obligation to intervene by the central bank and ECB if EUR/DKK reaches a fluctuation limit. Source: Danmarks Nationalbank
7
FX Watch - ECB fall-out for European FX - 05 February 2016
ABN AMRO major currency forecasts Changes in red/bold
EUR/USD USD/JPY EUR/JPY GBP/USD EUR/GBP USD/CHF EUR/CHF AUD/USD NZD/USD USD/CAD EUR/SEK EUR/NOK EUR/DKK
04-Feb Q1 2016 Q2 2016 1.1160 1.06 1.04 117.62 120 123 131.26 127 128 1.4649 1.41 1.37 0.7618 0.75 0.76 1.0030 1.04 1.08 1.1193 1.10 1.12 0.7219 0.68 0.66 0.6706 0.62 0.60 1.3682 1.44 1.46 9.3703 9.50 9.50 9.4805 9.50 9.25 7.4632 7.46 7.46
Q3 2016 Q4 2016 Q1 2017 Q2 2017 Q3 2017 Q4 2017 1.02 1.00 1.00 1.02 1.05 1.10 126 130 126 123 120 120 129 130 126 125 126 132 1.32 1.33 1.35 1.40 1.46 1.57 0.77 0.75 0.74 0.73 0.72 0.70 1.12 1.15 1.15 1.13 1.14 1.09 1.14 1.15 1.15 1.15 1.20 1.20 0.64 0.62 0.64 0.68 0.70 0.72 0.58 0.58 0.60 0.62 0.64 0.66 1.47 1.48 1.40 1.38 1.35 1.30 9.50 9.50 9.25 9.00 8.75 8.50 9.00 9.00 8.75 8.50 8.25 8.00 7.46 7.46 7.46 7.46 7.46 7.46
Source: ABN AMRO Group Economics
ABN AMRO emerging market currency forecasts Changes in bold/red USD/CNY (onshore) USD/CNH (offshore) USD/INR USD/KRW USD/SGD USD/THB USD/TWD USD/IDR USD/RUB USD/TRY USD/ZAR EUR/PLN EUR/CZK EUR/HUF USD/BRL USD/MXN USD/CLP
04-Feb Close 2015 Q1 2016 6.58 6.49 6.55 6.62 6.57 6.65 67.83 66.15 67.00 1,202 1,175 1,200 1.41 1.42 1.45 35.64 36.02 36.70 33.38 32.86 33.50 13,675 13,788 14,200 76 73 74 2.92 2.92 3.00 15.99 15.48 16.50 4.41 4.27 4.35 27.02 27.02 27.00 311 316 315 3.90 3.96 4.00 18.21 17.23 17.75 707 709 720
Q2 2016 6.60 6.65 67.50 1,230 1.48 37.20 33.80 14,600 72 2.95 16.25 4.30 27.00 310 4.00 17.50 715
Source: ABN AMRO Group Economics
Q3 2016 6.65 6.70 68.00 1,250 1.50 37.50 34.20 14,800 70 2.95 16.00 4.30 27.00 310 4.00 17.25 710
Q4 2016 6.70 6.73 68.00 1,260 1.52 38.00 34.50 15,000 68 2.90 16.00 4.25 27.00 305 4.00 17.00 700
Q1 2017 6.70 6.70 67.50 1,250 1.50 38.00 34.30 15,000 66 2.85 15.80 4.20 26.50 300 3.95 16.50 680
Q2 2017 6.65 6.65 67.00 1,240 1.48 37.50 34.00 14,700 64 2.80 15.60 4.15 26.25 300 3.90 16.25 670
Q3 2017 6.65 6.65 66.50 1,220 1.46 37.20 33.70 14,500 62 2.75 15.40 4.15 26.00 295 3.85 16.00 660
Q4 2017 6.60 6.60 66.00 1,200 1.45 37.00 33.50 14,200 60 2.75 15.00 4.10 25.50 290 3.80 15.50 650
8
FX Watch - ECB fall-out for European FX - 05 February 2016
Find out more about Group Economics at: https://insights.abnamro.nl/en/
DISCLAIMER This document has been prepared by ABN AMRO. It is solely intended to provide financial and general information on economics.The information in this document is strictly proprietary and is being supplied to you solely for your information. It may not (in whole or in part) be reproduced, distributed or passed to a third party or used for any other purposes than stated above. This document is informative in nature and does not constitute an offer of securities to the public, nor a solicitation to make such an offer. No reliance may be placed for any purposes whatsoever on the information, opinions, forecasts and assumptions contained in the document or on its completeness, accuracy or fairness. No representation or warranty, express or implied, is given by or on behalf of ABN AMRO, or any of its directors, officers, agents, affiliates, group companies, or employees as to the accuracy or completeness of the information contained in this document and no liability is accepted for any loss, arising, directly or indirectly, from any use of such information. The views and opinions expressed herein may be subject to change at any given time and ABN AMRO is under no obligation to update the information contained in this document after the date thereof. Before investing in any product of ABN AMRO Bank N.V., you should obtain information on various financial and other risks and any possible restrictions that you and your investments activities may encounter under applicable laws and regulations. If, after reading this document, you consider investing in a product, you are advised to discuss such an investment with your relationship manager or personal advisor and check whether the relevant product 窶田onsidering the risks involved- is appropriate within your investment activities. The value of your investments may fluctuate. Past performance is no guarantee for future returns. ABN AMRO reserves the right to make amendments to this material. ﾂｩ Copyright 2016 ABN AMRO Bank N.V. and affiliated companies ("ABN AMRO").