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FX Week Ahead: Will FX pause for a breath this week?

We expect the dollar bear trend to take a breather in a week packed with risk events. Biden’s inauguration may be accompanied by civil unrest and Trump’s impeachment trial, the EUR may edge below 1.20 with the ECB meeting, EU summit and Italy’s political crisis in focus, while the BoC meeting should have limited FX impact.

USD: Will there be a peaceful transition?

Washington will very much be the focus of the world’s attention this coming week as Joe Biden is inaugurated as the 46th US President on Wednesday. It would seem unlikely that we see a repeat of the civil unrest witnessed on Capitol Hill, but progress on impeachment proceedings may pre-occupy the Senate at a time when the US economy looks like it needs more support. Washington on Tuesday will also see Janet Yellen’s confirmation hearing as US Treasury Secretary. She may well be asked what she thinks about the dollar. Our best guess would be that she would reply along the lines of believing in a strong dollar policy, but exchange rates should be best set by the market. We doubt the dollar needs to rally much on these remarks.

CAD: BoC will continue to maintain lower for longer

The Canadian dollar has confirmed its ability to weather moments of unsupportive risk environment better than most currencies. Also contributing to CAD’s resilience in spite of USD momentum was the positive spill-over from the larger-than-expected fiscal plan announced by President-elect Biden. Looking at domestic drivers, the Bank of Canada will announce monetary policy on Wednesday, one-and-a-half hour after the release of the December inflation report. Core CPI may linger around 1.00%, but this should not have any clear implications for the BoC policy decision. In fact, we don’t expect the BoC to announce any new measures on Wednesday. The vaccine-related hopes have fueled the prospects of a quicker economic recovery, but the contagion picture in Canada has worsened of late and in general there would be no reasons at this stage for Governor Tiff Macklem to sound any hawkish.

EUR: ECB in focus

European policymakers will take centre stage this week – a week which sees meetings of both the ECB and EU leaders. On the former, little is expected of the ECB after December’s easing measures. However, we would expect President Lagarde to say that the ECB is ‘monitoring the exchange rate carefully’, wary of the euro’s impact on an already subdued inflation rate. The EU summit on Wednesday looks set to focus on the co-ordination of the vaccination roll-out and also the implementation of the EU Recovery Fund. Wrapping up, ongoing Italian political uncertainty and a steadier dollar could briefly see EUR/$ trade 1.1980.

GBP: Will the pound continue to outperform?

GBP has been the best performing G10 currency last week, benefiting from the mix of (a) the market re-pricing the odds of the Bank of England moving into the negative rate territory after Governor Bailey's comments earlier in the week; (b) faster roll-out of vaccination in the UK vs other major economies (EZ, US). While the former is now in the price, the latter should continue to provide a marginal support to GBP. On the UK data front, the focus will be on the Dec CPI (Wed) which is expected to increase modestly, yet staying well below the 2% target, Dec retail sales (Friday) and Jan PMIs (Friday). The latter two should improve vs the prior reading, but any effect on GBP should be limited.

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