Pending EU Summit May Curb Response to ECB

BBH CurrencyView

• The dollar is trading slightly firmer ahead of today’s ECB rate decision and tomorrow’s summit
• We expect the ECB to cut by 25bps, with a possibility of a 50bps cut; look to fade knee-jerk reaction
• Australia’s employment much weaker than expected; Singapore imposes news taxes on homes

The dollar is trading slighter firmer against most of the majors and EMs ahead of today’s ECB meeting and tomorrow’s summit.  The euro has traded mostly sideways currently near 1.3389 as has been the USDJPY at 77.36.  The BoE kept its repo rate and its quantitative easing program unchanged, as was widely expected, with sterling largely unchanged on the day.  Asian equities closed mostly down, but only modestly, with the Nikkei off 0.6%.  European shares are little changed ahead of the ECB meeting with the EuroStoxx 600 up 0.2%.  European banks share are flat on the day.  Elsewhere, the AUD has largely recovered most of the drop of 0.4% in response to the weak jobs reports.

Today the market focus is likely to be on the ECB.  We look for the ECB to cut by 25bps, with the possibility of a 50bps cut.  We also expect it to broaden the collateral it will accept and possibly reduce the haircut on existing collateral.  At the same time, we also expect it will offer 2 and possibly 3-year repos in order to support liquidity in the banking system.  It may also announce an increase in its SMP program of buying sovereign bonds but we think this is less likely ahead of tomorrow’s summit.  Of these measures, the last is the most questionable as well in that the ECB has never pre-announced the amount it buys.  Some reports have suggested a 20 bln euro self-imposed weekly cap, which was been surpassed once or twice, but most often is well shy of the "existing" cap.  In terms of the euro, there are both positive and negative impacts to the ECB easing financial conditions.  On the one hand, further loss of interest rate support would be supportive of a weaker euro through the narrowing of the 2-year interest rate spread.  On the other hand, the euro can in the very near term benefit from policy action that relieves perceptions of systemic stress and reduces the overall risk premium.  However, while we wouldn’t rule out a bounce in the euro on an aggressive easing result as risk would likely come back on, market reaction is likely to remain temporary ahead of tomorrow’s summit.  As a result, we expect the market reaction to ECB to remain choppy and we would ultimately look to fade any knee-jerk positive reactions with resistance expected near 1.35. 

Australia’s employment dropped 6.3k in November after a 16.8k climb (was +10.4k) in October. Full time employment dropped 39.9k in November after gaining 26.2k in October and rising 9.3k in September. Some of this was offset by prior month employment being revised up 6.7k.  However, the market focused on the 39.9k fall in full time employment in November, the worst outturn in seven months.  Aggregate hours worked and the participation rate also fell.  Overall, the report supports the recent move by the RBA to cut the policy rate by another 25bps and looking ahead is likely supportive of further measures to ease financial conditions.  The OIS market is still discounting nearly 125bps from the policy rate and while we continue to think the RBA is likely to ease policy further from here, for now we expect the AUD to be driven by risk appetite and developments from Europe.  That means, we would fade any near-term bounces with near-term resistance seen near 1.033.  A downside break of 1.0208 would open up support near the 20dma (1.0065).

Elsewhere, Japan’s core machinery orders in October fell 6.9% m/m after falling 8.2% in September. The fall was much greater than expected. Moreover, this was the second consecutive monthly drop, likely signaling dampening corporate capital spending due to the global slowdown and euro crisis. Japan’s current account surplus also slipped 62.4% y/y in October to 562 bln yen from 1,585 bln yen in September, driven in part on weaker trade. Investment income remained the single component that kept the current account in surplus. Singapore imposed new taxes on home purchases to curb excessive investments. Foreign and corporate buyers will have to pay an additional 10% stamp duty on the value of the sale price on top of the standard duties which rise in a graduated scale to 3%. Permanent residents will pay an additional 3% on second properties and citizens will pay an additional 3% on third properties. The new tax is effective from today and looking ahead is likely to curb future property related inflows.  In Taiwan, November export growth slowed markedly to 1.3% y/y, significantly lower than the consensus of 8.6% as well as October’s 11.7%.  Weak demand for electronics from the advanced economies and China in particular were the key drive of the weakness.  Looking ahead, given the weak external environment, it is likely that exports remain subdued in the coming quarters.  We expect the TWD to remain range bound for now.