This analysis will be limited on the most liquid forex pair (EUR-USD and USD-JPY) as they generally dictate USD’s power against broad currencies in general. EUR and JPY may present negative outlook for 2017. Our forecast indicate that the USD will be stronger against other currencies in general. This strength would be supported by the weaknesses of EUR and JPY.
Current move of USD is ranging with limited move as the market is still waiting and speculating for a still uncertain rate hike decision. Many economists predict that there would be 1 hike by the end of this year followed by another 1 or 2 hike in 2017. The expectation of hike in 2017 will support USD strength. Why are the rate hikes likely? Because global economic condition is starting to improve (no more Brexit and China major slowdown). This “no major global risk” condition should be an opportunity to increase the rate. However US’s inflation is still far from target of 2%. The fed has been waiting for this 2% target to be achieved.
However some of the fed members had agreed that chasing this inflation target should not be a priority over rate hike plan. This is because the increased interest rate will be a defense for future economic crisis or become stimulus for future significant slowdown. Given these reasons we can speculate that at least 2 rate hikes will happen between 4Q2016–2017, which will support USD value.
Euro has shown weak economic data in 2016, especially after Brexit.
- Low economic growth
- Low inflation (ECB’s medium term target is close to 2%)
- Composite PMI – much lower business expansion
Given the negative outlook, market has expected ECB to cut rate further and increase stimulus program. However ECB stated in September there won’t be further easing for now. This will cause europe’s economy to remain slow in 2017. On the other hand, increasing the rate is an unlikely option. Even with current bechmark rate at 0%, there were large non performing loan, especially in Italy.
The low benchmark rate which failed to stimulate the economy, has hit banks’ earnings. This could be reflected from the slump of european banks’ stocks.
This deadlock of slow growth, bad debts, and too low interest rate will significantly hit europe’s economy in 2017.
Why is the Japanese Yen forecasted to be weaker than USD in 2017 ? Because current yen level is too strong, it has hit Japan exporters. This is not good for Japan as Japan is a net exporter.
- Downtrend in export
- Slow growth
- What’s even worse? Deflation
Those weaknesses coupled with already negative interest rate, would be a serious pressure on JPY accumulated in 2017. The market expected BOJ to give more monetary stimulus and possible fiscal stimulus (helicopter money) to depreciate the yen to a sustainable level for Japan’s economy. BOJ may no longer be able to avoid these stimulus expectations in 2017 (despite an issue in the legality of fiscal stimulus in the form of helicopter money) since Japan’s economy may fall further in 2017.