FX Update: USD traders continue to hold their collective breath for direction

Note that this is my last FX Update until at least Monday the 27^th of June.

In yesterday’s FX Update, I outlined the long-term bearish case for the US dollar, but take the opportunity today to discuss the possible difficult path to that outcome.  The most straightforward hurdle to a weaker US dollar is a double whammy of this COVID-19 resurgence creating a W-shaped recovery coupled with any failure by the US treasury/Trump administration and/or US Congress to bring fresh stimulus measures. As well, the spike in delinquencies risks a shutdown in credit creation, all of which spell the risk of a tightening in the US dollar.

The most obvious counternarrative to these concerns is that the Fed is clearly on the dovish path again after Deputy Governor Lael Brainard’s speech this week, and that the Treasury has its $1.6 trillion war chest at the ready for bringing a hefty chunk of liquidity back into the market, not to mention the prospect for additional new stimulus as the election approaches in just over three months’ time, in the form of new stimulus checks, unemployment benefits and other stimulus.

Nonetheless, it is still possible for the US government to “get it wrong”, with President Trump perhaps uninspired to promote forceful new stimulus and other measures as his hopes for re-election fade. In just two weeks, the $600 per week in federal unemployment benefits will run out, a huge headwind for consumption if it is not renewed at all and signals from stakeholders are that if it is extended, it will be slashed significantly. For now, we’ll track those stories closely, together with the technical situation, which as we argue below, is perched at pivotal levels for the EUR and the USD.

The ECB headline decision brought no changes to the ECB’s asset purchase programme, with mere guidance on the minimum forecasts timeframe for its PEPP and other programmes, which we all know would be adjusted in the event conditions worsened. There was hardly any reaction to the initial announcement and the press conference is ongoing as we write this with hardly any reactivity in the euro to Lagarde’s statement and the initial portion of the Q&A. An expansion of the PEPP programme is likely at the next ECB meeting once the size of the EU recovery package is known.

Chart: EURUSD
Maximum limbo for EURUSD traders ahead of a weekend that will see the important EU Council meeting extending into Saturday. How will the market treat the news that an agreement has been hammered out on the EUR 750 billion recovery package and that the objections of the “frugal four” (Denmark, Sweden, Netherlands and Austria) have been overcome? On the one hand, a more clear path to mutualization and funding via new direct EU taxes suggests a path to mutualization that is encouraging for Euro bulls, while on the other, the overall size of the package is not terribly impressive and would lead to a sub-2% of GDP per year impact on the economy in the near future – so optimistic assumptions about this programme will have to be that it is merely a first step toward additional stimulus further down the road. Technically, yesterday’s session was a minor setback for bulls as much of the day’s gains into the key pivot zone higher were erased in late trading. We continue to watch this 1.1400-1.1500 zone (the spike high during the dire March trading conditions was 1.1495) for whether EURUSD can clear the hurdle to the upside.