Donald Trump has not even entered the White House but his promises of new tariffs on Canadian, Mexican and Chinese imports are already causing upheaval in the currency markets. He has not mentioned Europe so far – something that ECB President Christine Lagarde is acutely aware of and is eager to avoid.
Lagarde has spent this week urging European leaders to “buy American” in order to avoid an all-out tariff confrontation which during Trump’s last stint in the White House caused a severe blow to German car exports. If it happens again the fallout won’t stop with Germany but will also affect countries where Germany has outsourced car and part manufacturing including Poland, Hungary, the Czech Republic and Slovakia.
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The dollar has already rallied against the peso, Canadian dollar, euro and yuan this week but market watchers warn that the full extent of renewed trade tensions has not been fully priced in. If all of the tariffs materialise as Trump promises, and don’t end up just being used as a negotiation tool, the currencies in question will face more pressure.
For the moment, traders are still focusing more on whether the Fed will slow down the pace of its planned rate cuts based on Trump’s other political decisions. This could change over the coming months as the trade restrictions start filtering through into real trade.
Euro at the mercy of trade threats
“That Europe was not mentioned in Trump’s first tariff post could perhaps be welcome news on the Continent. Yet local policymakers will remain fearful that it will just be a matter of time before Trump turns his attention to the European auto sector or tariffs more broadly. In any case, the threat of further tariffs on China shows the direction of travel on world trade, which is bearish for the euro,” said Chris Turner, Global Head of Markets at ING.
The ECB is widely expected to cut rates at its next meeting on 12 December although it is not clear if the central bank will opt for a 25 basis point or 50bp cut. The dollar, on the other hand, is being supported by the recovery in the US November consumer confidence numbers which were bumped up following Trump’s election win and by the Fed’s mildly less dovish tone as it sees fewer downside risks for the US economy. These factors combined will work against the EUR/USD pair.
Chinese authorities protect the renminbi
As ever, China is unlikely to take Trump’s comments without reacting to a) protect its currency, and b) protect its exports. Following Trump’s tariff announcements Chinese authorities managed to keep the renminbi in a very stable range by fixing the domestic dollar/renminbi rate exchange rate below 7.20. This limits not only how high the dollar can trade against the Chinese currency at home but also indirectly how high it can trade abroad.
“We are taking the view that Chinese authorities are playing the long game here and will not be devaluing the renminbi for some short-term gains for local exporters,” said ING’s Turner. He believes that local authorities will be far more interested in preserving the renminbi as an international reserve currency and in avoiding capital flight.
EUR/USD is trading at 1.05632, up 0.08 %, while USD/CNY is down 0.01% at 7.24857 (Friday afternoon).
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