A hawkish Fed drives stronger USD, weaker scandies

Higher inflation

As expected, the economic recovery in the developed countries has continued since our last update, as the COVID-19 situation is improving (due to vaccines and warmer weather), mass vaccination continues and restrictions are eased gradually. The most important event since last month was the hawkish shift from the Fed. The Federal Reserve now signals two rate hikes in 2023 and seven out of 18 policymakers expect a hike already next year. Simultaneously, the Fed is now openly discussing when to start QE tapering (the bond-buying pace is USD120bn per month currently). The Fed still thinks the higher inflation is transitory so the biggest change, in our view, is that the Fed now expects a stronger labor market recovery, especially when the temporarily higher unemployment benefits expire (no later than early September). US yields and the USD both moved higher, as de facto no one had expected such a major policy shift already now. We think the meeting marked the beginning of the end of the Fed’s very accommodative policy.

The developments in FX markets have been very much in line with our expectations of a stronger USD and weaker SEK and NOK due to higher US real rates. As we wrote last month, the timing of a hawkish shift from the Fed would be very important for markets – we also believe that is the case when the Fed takes the next steps in the gradual removal of accommodation. In addition, we are likely to see a peak in manufacturing both due to the re-opening and tighter monetary and credit policies in China.

We have not made big revisions to our FX forecasts since May. We still expect EUR/USD to move lower targeting 1.15 in 12M. We expect both EUR/SEK and EUR/NOK will move higher from here targeting 10.40 in 12M. EUR/GBP is expected to move down to 0.83 in 12M. 

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