Effect of the US election on FX markets

Not much really. The reaction by currency markets to the drama and anticipation that unfolded on Tuesday night was fairly muted as most pairs have remained in their recent ranges. The Euro might be the exception as it has been on a downward slide since Tuesday. It hit a 2 month low today against the Dollar. The reasons behind that probably have less to do with the US elections than the continuing deterioration of the European economy. The European Central Bank kept interest rates at a record low today and said the euro zone economy shows little sign of recovering before the year's end. Recent weak euro zone data, which also showed weakness in Germany, has prompted speculation that the ECB may ease policy further before the end of the year. Since new ECB president Mario Draghi has taken the reins of power he has indicated that he is less resistant to quantitative easing measures than his predecessor, but many market watchers aren’t particularly optimistic that he will take aggressive steps to attempt to revive the flagging economy. Spain has added further downward pressure as it appears that they are mulling over a formal request for a bailout and now a decision isn’t expected before year end. There was some marginally good news out of Greece today as the parliament there passed an austerity package. As usual, there were riots in the streets to christen its passage. Part of the austerity package was wage cuts, but the judges, central bankers, and Parliament members were all able to escape the axe coming down on their salaries by gerrymandering the system. That greedy behavior, while not surprising, is unlikely to garner much empathy from the Greek populace. They passed the austerity plan to get access to the next EUR 31Bln tranche of bailout funds. However, the protests and greedy behavior didn’t impress ECB either as they have delayed a decision about the next tranche for a couple of weeks. ECB President Draghi seems to be exasperated at this point with Greece, so a passage of the next tranche is not guaranteed.

In other currency news, the Pound has been trading in familiar ranges for the past week. The Bank of England announced they were keeping rates on hold today as the market anticipated. The tone of the members has become more dovish recently due to lackluster economic data, but they still seem cautious about applying more stimulus. In Canada, the fall in the US stock market yesterday pushed the Canadian Dollar lower. It went from .9880 yesterday, but is currently trading right around parity. Trade data and housing numbers have come in right where analysts were expecting them. Finally, the Aussie Dollar has seen some appreciation over the past couple of days. It gained today on the back of October unemployment data ticking down a notch from 5.5% to 5.4%. News out of China has also been good recently, which has buoyed the Aussie Dollar. Starting with tonight’s 18th party Congress, China will be announcing a major leadership change that will hopefully lift risk appetite. Although China is under a one party rule, this once in a decade transition is nonetheless a historic event. China’s new leaders will take over the country at a very a delicate time for their nation and the global economy.

The next big event that has everyone’s attention is the upcoming fiscal cliff. About $600 billion in government spending cuts and higher taxes will kick in early next year, unless U.S. lawmakers take steps to reduce the deficit. I’ve read several reports from economists that believe the “status quo” results of the election were a worst case scenario for the upcoming negotiations on the fiscal cliff. While the president’s party gained several seats in both houses, the magnitude of the shift is not sufficiently large to change the dynamic in Washington. At issue here is really about the future increase to marginal tax rates for the wealthy. After retaining their majority in the House, the Republicans don’t feel they have a mandate to come down. Speaker Boehner has already offered to do his part to close tax loopholes and look for additional sources of tax revenue, but he stopped short of saying they would compromise on raising taxes on the wealthy. In addition, many Republicans have signed a pledge for no new taxes that was circulated by Grover Norquist. The Democrats with their wins on election night and an overwhelming percentage of American’s that believe in slightly higher taxes on the wealthy, feel this topic has been decided, end of story. It will be interesting to see how it progresses going forward, but things could come down to the wire here, causing heightened volatility. It should also put upward pressure on the greenback as uncertainty usually means appreciation for the safe haven currencies of the Dollar and Yen.

For additional information please call (408) 556-8377.

Regards,

Brian Simonson
Senior Vice President - FX Trading

Bridge Bank, N.A.
55 Almaden Boulevard
San Jose, CA 95113
T. 408.556.8377
F. 408.275.0362
Email

Disclosure

Bridge Bank cannot accept liability for any inaccuracies that occur. No statement is to be considered as a recommendation or solicitation to buy or sell securities or other instruments or to provide investment, tax, or legal advice. Readers should be aware that the information provided is not intended to replace professional advice in relation to any topic discussed.

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