Drain ‘Le Swamp’
European stocks steadied on Tuesday, supported by the prospects of stronger economic growth this year. A rise in the value of the euro meant Germany’s very export-orientated DAX index underperformed. French investors mostly ignored an investigation into one of the country’s presidential candidates.
France’s Republican nominee for President is under investigation over €500bn paid to his wife for a reportedly fictitious job. It’s another reason the French people may decide to vote for their own Donald Trump in the form of Marine Le Pen to ‘drain le swap’.
The FTSE 100 outshone other European markets with a rise in commodity prices coming to its aid, sending mining company shares higher. Deutsche Bank (DE:DBKGn) paying multiple millions in fines to the US and UK for a Russian money-laundering scheme weighed on other multinational lenders, including Barclays (LON:BARC) and RBS (LON:RBS). Even as interest rates improve lending margins and bond trading revenues, fines for wrong-doings are like a bad smell that just won’t go away for the shareholders of big banks.
ECB tapering odds just went up
The euro jumped on Tuesday with the backing of strong economic data and some stark criticism from President Trump’s administration about the very nature of the single currency.
Eurozone consumer price inflation (CPI) rose faster than expected in January, clocking in at 1.8% year-over-year, whilst growth improved and unemployment fell. The wholesale improvement in Eurozone economic data is important in the light of extraordinarily accommodative monetary policy from the European Central Bank, which has a mandate of reaching 2% inflation. We viewed the extension of the ECB’s quantitate easing program in December as ‘Taper light’. This latest batch of data increases the odds of a full taper in 2017.
We wouldn’t expect an immediate course-reversal from ECB President Mario Draghi who at the last monetary policy meeting called the rise in inflation ‘transient’. Still, if prices persist near the central bank’s target for another quarter, there will be significant pressure from Germany’s typically more hawkish Bundesbank. Germany already has inflation of over 2% in some of its regions so it will be keen to row back asset purchases quicker than the December 2017 end-date previously spelt out.
The implications for EUR/USD are strong. If higher inflation forces the tapering of QE sooner than expected, the divergence between ECB and Federal Reserve policy is reduced, taking away one of the main reasons to sell the euro.
The "implicit Deutsche Mark”
The gains in the euro after the well-received economic data accelerated when the head of President Trump's National Trade Council, Peter Navarro, called the euro an "implicit Deutsche mark that is grossly undervalued”. This matches up with Treasury Secretary Mnuchin who said the US dollar is “too strong” (before backtracking saying he supports a strong dollar).
The Trump administration appears to be targeting currencies as part of its goal of realigning global trade back in favour of the US worker. A weaker dollar on top of import tariffs will be another disincentive for US companies to manufacture abroad. The comments from Donald Trump’s team will irk Angela Merkel’s Germany. The truth hurts. It’s well understood that the euro is weaker than the Deutsche mark and stronger than the Spanish peseta or Greek drachma would have been, which tilts trade in favour of the more industrious Germany.
Trump’s team criticising the euro in the context of Brexit and populist candidates in upcoming European elections puts ‘Eurozone breakup risk’ at the highest since the bloc’s inception.