Nothing to Celebrate

The information presented in this publication is provided purely for informational purposes and does not constitute investment advice, an offer to sell, or a solicitation to buy, and should not be used as a basis or taken as an encouragement to engage in any investment.

The macro point

The economic environment continues to deteriorate. The World Bank released its new economic projections last week. A significant decline in global growth is expected this year. In January, the international organization was predicting a GDP increase of 4.1%. It will only be 2.9% after all. It is likely that this latest estimate will be revised downward in the coming months. The organization also sounded the alarm about a sovereign debt risk affecting developing countries (which are unable to cope with the surge in food and energy prices). Sri Lanka was the first country to default. We talked about it a few weeks ago. Others will follow, probably in Asia and Africa. The systemic risk for developed countries is low, fortunately.

In Europe, the economy is slowing down. The OECD has released worrying estimates of a decrease in real wages (nominal wages minus inflation). Almost all European countries are at risk of experiencing a decrease in real wages, sometimes significantly. In Greece, the decline could reach 7% this year. This is reminiscent of what happened immediately after the financial crisis of 2007-2008. France is an exception. According to the international organization, real wages should increase very marginally by 0.24% on average this year (nominal wages are slightly higher than the rate of inflation). Again, this is an estimate. If inflation rises further, as we anticipate, it is likely that real wages will fall in France too. Consumption is likely to wobble in Europe starting in September. It will be a brutal reality check for consumers but also for businesses. It is likely that the government will be forced to unveil a more ambitious "purchasing power" plan than the one presented last week.

Across the Channel, indicators confirm that the risk of a sharp economic slowdown or even recession is increasing. The activity index for the construction sector (an important indicator to assess the real state of the economy) has collapsed to a low point since January. The stagnation observed in the construction of buildings and residential houses is the most concerning point. It is a sign that the surge in the cost of living along with rising interest rates (linked to monetary tightening initiated by the Bank of England) is starting to weigh on demand. A further slowdown in the sector is expected in the short and medium term.

In the United States, inflation continues to progress at a rate of 8.6% year-on-year in May (6% if volatile items are omitted). This seems to confirm that the inflation peak has not been reached (as we already thought at Mondial Change). The US Federal Reserve (Fed) will have to convince the foreign exchange market of its determination to fight the surge in prices. In a recent study that made the media rounds, economist Larry Summers, former US Treasury Secretary under the Clinton era, estimates that the current level of inflation is higher than that observed during the peaks of the 1950s and early 1970s if historical inflation rates are adjusted taking into account changes that have affected the price index measurement basket. It's frightening. In conclusion, he calls on the Fed to react more aggressively by adopting an approach similar to that implemented by Paul Volcker, Fed Chairman, in the early 1980s. He abruptly increased rates, successfully pushing back inflation. In doing so, it pushed the US economy into recession twice (very short recessions each time). It is certainly still too early for such a remedy to be employed.

On the foreign exchange market, the euro is still declining against the US dollar (-0.85% over five sessions). The hawkish tone of the European Central Bank and the prospect of a 25 basis point increase in the key rate next July (already factored in since mid-May) have not convinced forex traders. Technical analysis still confirms that the bearish trend prevails in the medium term. The strategic threshold to watch in the coming sessions for the EUR/USD is the support area around 1.0500-1.0503. In case of a break, expect a more pronounced depreciation towards 1.0350. We think that a return to parity (still mentioned by many Forex analysts) is a slightly premature scenario. Several major technical levels must be crossed before that.

The supports and resistances displayed below indicate the respective low and high points within which the prices should evolve during the current week.

	SUPPORTS	WEEKLY	RESISTANCES	WEEKLY
	S2	S1	R1	R2
EUR/USD	1.0340	1.0503	1.0829	1.0993
EUR/GBP	0.8320	0.8420	0.8633	0.8739
EUR/CHF	1.0120	1.0196	1.0500	1.0610
EUR/CAD	1.3120	1.3314	1.3636	1.3797
EUR/JPY	137.59	139.77	145.32	146.21

Volatility will certainly be high this week on the main pairs of the foreign exchange market due to numerous central bank meetings. The Swiss National Bank (SNB) is not expected to change its monetary policy for now. But it should pave the way for an adjustment soon – certainly following the ECB. The SNB has expressed concern about the inflation trend in recent weeks and has hinted it could gradually exit its negative rate policy (which is an anomaly). Across the Atlantic, the direction of monetary policy is clear for the upcoming months: a 50 basis point increase this week, before similar action in July. It is still too early to know if the Fed will opt for a pause in the tightening cycle in September (a scenario mentioned by many analysts). More data on inflation and employment market trends will be needed to have a firm opinion. Finally, the Bank of England will also be in the spotlight this week. Although it has expressed concern about growth dynamics, it is unlikely to decide to stop its monetary policy normalization process at this stage. The foreign exchange market overwhelmingly anticipates a 25 basis point increase in the key rate this Thursday. It is already partly built into the sterling exchange rate.

Below you will find the publications and events that should have a major impact on the evolution of currency rates.

DAY	TIME	INDICATOR	WHAT TO EXPECT?
14/06	11:00	ZEW Economic Sentiment Index (June)	Sharp decline expected to -42.0 against -34.3 in May – reinforcing stagnation risks in Germany.
	14:30	Producer Prices (May)	New increase in monthly variation expected at 0.8% against 0.5% in April.
15/06	20:00	Central Bank Meeting	The consensus among analysts is for a 50 basis point increase in the key rate. Little doubt about it. Note that economic projections will be updated on this occasion.
16/06	09:30	Central Bank Meeting	No change in monetary policy in the short term. But the central bank should confirm that it is ready to raise its key rate if inflation continues to rise. This is a major change for Switzerland.
	13:00	Central Bank Meeting	A majority of analysts expect the key rate to increase by 25 basis points.