High inflation is the overriding theme in the markets currently. The US, EU, UK, and some emerging markets like Turkey are witnessing a rise in prices not seen in years or decades. A harsh pandemic followed directly by the ongoing conflict in Eastern Europe caused turmoil in the markets. This will likely be the prevalent feature in 2022 and perhaps beyond.
What are the implications of this situation on the economy for the near and far future? No one can really tell. However, some projections can be cautiously made at this point in time.
The US Dollar is likely to strengthen further
Given the high inflation in the United States, which has reached around 8.5% in March, the Fed is unlikely to stand still. The base interest rate will probably be raised up to 1% or higher during this year, which will buoy the greenback. Despite this, the Fed is unlikely to adopt a very hawkish monetary policy to avoid hampering growth. Chairman Jerome Powell knows that he must walk a fine line between being too dovish or too hawkish, and be careful about what to communicate to the markets.
The expected rises in interest rates will likely keep the Dollar strong throughout the year. The DXY index, which measures the strength of the US Dollar against a basket of currencies, is trading at above 100 points. If the current trend continues, it is likely that the index will reach 120 points, which will in turn have implications for USD pairs. The DXY index gives guidance on how to trade forex and it matters for other currencies, given the Dollar’s standing in international trade.
The Yuan may witness a decline against the Dollar
The USDCNY daily chart shows a clear bias towards the upside. That is, the Dollar is expected to strengthen and the Yuan to weaken. The surge of COVID-19 in several cities in China and the failure of its zero covid policy do not bode well for the economy. Recently, the Chinese government reduced capital requirements, allowing the release of 500 billion Yuan in liquidity. China is trying hard to take measures to support the economy.
The Euro remains in an uptrend
The Euro zone, much like the US economy, has witnessed a high inflation rate – the highest in 30 years. The ECB is likely to take appropriate action to bring that rate back to below the target or near it. This requires a somewhat hawkish stance from the central bank. Those measures are likely to include reducing assets purchases and putting a gradual end to negative interest rates. Investors usually see this type of policy positively, although its impact might take a while to materialize.
In addition, the market does not seem to be expecting that Marine Le Pen is to win the French presidential elections scheduled in late April. The Euro has not weakened significantly. Emanuel Macron still has better chances to secure a second term, and this is positive for the Euro.
Summary
Several central banks are taking a slightly more hawkish stance, which is a positive sign for their currencies. However, there is a lot of uncertainty regarding the future of Russian involvement in Ukraine and energy markets are likely to maintain their weight on the markets. Expect a bumpy recovery moving forward.