US Dollar: For the Q1 2012 outlook, USD is likely to strengthen on the back of the recent slew of better-than-expected economic data thoughUS economy is expected to lose some growth momentum in H2. In Q1 2012, the euro zone sovereign debt crisis is likely to worsen sparking a risk-off environment which is USD positive before European policymakers will be pushed toward tighter fiscal compact.
In response to sluggish growth in H2, the Fed might embark on QE3 in H2 which would be USD negative. Over the course of 2012, USD is likely to be stronger in H1 than in H2.
Euro: For the Q1 2012 outlook, EUR is likely to depreciate against major currencies. The intensifying debt woes, coupled with adverse feedback loop between funding costs, bank deleveraging and growth, likely to culminate in steep recession in euro zone and prompt earlier-than-expected rate cuts by ECB than are priced in and further bank liquidity support by ECB which are EUR negative.
Over the course of 2012, some of the major themes are 1) negative feedback loop between sovereigns and banks fund raising capability, 2) risk of a disorderly default in one of the euro zone countries and 3) capital flight / outflow from the euro zone area. The market could force a resolution of the euro zone crisis on the European policymakers in H2 which include a closer fiscal integration and a significant expansion of the ECB’s balance sheet.
Japanese Yen:For the Q1 2012 outlook, risk-averse environment arising from intensifying euro crisis could result in EURJPY making several fresh record low in a decade. Furthermore,Japan is set for fiscal expansion, driven by post-earthquake reconstruction and the very low inflation will allowJapan to maintain very accommodative monetary policy.
Over the course of 2012, the key fundamental themes are QE3 by Fed, evolution in euro zone debt crisis and continued accommodative fiscal and monetary policy. Owing to expectation of additional Fed easing in H2, USDJPY may record fresh historical lows eliciting BoJ policy reaction such as intervention.
Sterling Pound: For the Q1 2012 outlook, the key fundamental themes are the domestic monetary policy taken by BOE and the development of the euro zone sovereign debt crisis. With approximately 54% (based on Jan-Oct 2011 data from HM Revenue & Customs) of the UK’s exports going to the euro zone, if euro zone dips into recession, the economy of U.K. is unlikely to escape unscathed and the consumer confidence and the economic outlook are likely to be adversely affected. This will elicit BoE to increase in asset purchases which is GBP negative.
Chinese Yuan: For the Q1 2012 outlook, CNY (onshore) is likely to continue its appreciation trajection albeit lower headline inflation pressure and lower growth reduce the incentive forChina to maintain the current pace of appreciation. Dollar strength arising from risk-off environment is likely to buck the trend in the short-term. Slowdown in growth is likely to be driven by 1) labour shortage and 2) slower export as China could face a possible euro area recession. Soft landing is the likely scenario asChina still has more room for policy easing although this scenario faces two major risks such as a worse-than-expected euro area sovereign debt crisis and severe fall in property prices arising from tightening measures not being fine-tuned on a timely basis.