The dollar declines in May

Despite losing some ground in recent days, the euro recorded its strongest monthly gain of the year in May. At the same time, the dollar has fallen back from the leading position it held in the early months of the year. Investors are repositioning themselves in anticipation of rate hikes in Europe and the possibility that the pace of rate hikes in the US will slow down. The greenback is also under pressure as investors are looking again at riskier assets and currencies, partly caused by the lifting of lockdown measures in Shanghai, China’s financial capital.

The European Central Bank is expected to start raising its benchmark rate in July by 50 basis points, taking it to zero per cent. Figures published by different countries show inflation is not showing signs of slowing down in the euro area. In the zone as a whole, the consumer price index came out yesterday as having risen by 8.1% on an annual basis, compared with 7.4% the previous month. The market was expecting an increase of 7.7%. As a reminder, the target of the major central banks is 2%. According to Peter Kazimir, member of the Governing Council of the European Central Bank, record inflation justifies hiking rates beginning in July. In order to keep prices under control, the ECB will have to reduce rates to a “neutral” level, i.e. to a stage where they neither stimulate nor inhibit growth, he said. Mr Kazimir suggests a rate between 1% and 2% next year but, according to him, this may not be enough. Ignazco Visco, Governor of the Bank of Italy and also a member of the ECB, said the European Central Bank should raise its deposit facility rate gradually. Per his analysis, deflation is no longer a threat and the pandemic is no longer a drag on aggregate demand, but the economic outlook remains uncertain.

Yesterday the euro ended lower as the market fears a slowdown in European growth due to the Russian oil embargo. EU countries committed to reducing their imports of Russian oil by 90% by the end of the year. There are also concerns that rate hikes will weigh on the economy. On the other side of the Atlantic, in the US, attention has also shifted from higher inflation and more rate hikes to concerns about whether the Fed’s tightening has put pressure on the economy. This is the reason why the dollar weakened in May, and it is the same reason that is now weighing on the euro. The dollar index is currently slightly below 102 after falling to 101.3, its lowest level in five weeks. Since the beginning of the year it had risen from 95.7 to a high of 104.8 on 12 May. The index measures the strength of the dollar against a basket of six other currencies, with the euro having the highest weighting.

Fed Governor Christopher Waller made remarks suggesting that the Federal Reserve would continue an aggressive pace of tightening. He said it could raise rates by half a point per policy meeting until inflation is under control. This implies that there would be no break in the autumn. “So”, he added, “this trend of a weaker dollar could reverse”. These remarks caused the US stock markets to fall.

News that European Union leaders have agreed to cut most oil imports from Russia by the end of the year has pushed up oil prices and boosted commodity currencies. The Canadian dollar touched 1.2629 per dollar yesterday, close to its one-month high. Oil prices have risen to their highest level in two months. The price of Brent crude oil rose to $120 a barrel, closing in on its 14-year peak of nearly $135 in March, as Chinese authorities began to ease restrictions over the weekend. Oil prices are also being supported by the OPEC+ production freeze and the dimming prospects for an Iranian nuclear deal. But yesterday the Wall Street Journal reported that some OPEC members are considering suspending Russia from production deals, which would allow them to produce more oil. The barrel lost almost $5 on this news.

In Switzerland, first quarter GDP exceeded expectations by growing by 4.4% year-over-year instead of the expected 4.3% and 3.6% in the previous quarter. The SECO also revised real GDP for 2021 as a whole to +3.8%, compared to +3.7% in its first estimate at the end of February, and a decline of 2.4% in 2020. The Swiss franc reacted by gaining ground to 1.0255 against the euro before stabilising at around 1.03, and 0.96 against the dollar.