Ukraine crisis and central bank rate speculation drives currency volatility
Mounting tensions between Russia and Ukraine at the end of last week turned investors’ attention towards safe heaven currencies, boosting the dollar and the Yen, while the Euro retreated. Hopes for a diplomatic resolution to the situation were diminished on Monday, as Vladimir Putin signed a decree effectively declaring war on Ukraine.
The EU and the US have condemned the Russian President’s actions and are prepared to enforce economic sanctions on Russia. Safe-haven currencies, such as the dollar and the Yen, are expected to benefit from these recent developments as demand for safer assets grows. So let’s look at how this will affect the major currencies in more depth.
EUR/GBP: Unmoved at £0.83
EUR/USD: Up from $1.12 to $1.13
The euro traded in a wide range in February, with the single currency being rocked by fears over a potential war breaking out in Eastern Europe, as well as a surprisingly hawkish turn by the European Central Bank (ECB).
The former has acted as a key headwind for the euro in recent weeks as tensions between Russia and Ukraine mounted. EUR investors were naturally unsettled by the potential impact a war in Europe and the sanctions imposed by Western powers could have on the Eurozone economy.
On the other hand, the euro was given a shot in the arm as the ECB concluded its first policy meeting of 2022 in early February. In her post-meeting press conference Christine Lagarde, refrained from reiterating her previous stance that a rate hike this year would be ‘unlikely’, sparking considerable speculation the ECB’s first rate hike in over a decade could come before 2023.
Looking ahead, the situation in Ukraine will likely act as a key catalyst for the euro in the coming weeks. A full-fledged invasion by Russia could place considerable pressure on the single currency.
GBP/EUR: Unchanged at €1.19
GBP/USD: Up from $1.34 to $1.35
The pound was also infused with some volatility over the past four weeks as UK political jitters offset the announcement of another interest rate hike from the Bank of England (BoE).
As was widely expected, the BoE concluded its February policy meeting with the announcement it would be raising interest rates to 0.5%. This helped to underpin Sterling in recent weeks particularly after the bank signalled rates may continue to rise in the near-term after four of nine policymakers broke ranks to vote for an immediate hike to 0.75%.
However, the pound’s gains have been stifled somewhat by UK political developments amidst considerable pressure on Boris Johnson to resign as Prime Minister over his involvement in the Downing Street ‘partygate’ scandal. Also weighing on Sterling sentiment are growing concerns over the UK’s cost-of-living crisis, amidst fears UK economic growth could be stymied by households reigning in their spending.
Looking ahead, an expected March rate hike from the BoE could lend some support to the pound this month, but any substantial gains are likely to be curtailed by the same cost-of-living and political concerns.
USD/GBP: Down from $0.74 to $0.73
USD/EUR: Unchanged at €0.88
The US dollar has flip-flopped over the past month amidst fluctuating expectations for the next Federal Reserve rate hike.
While a March hike appears inevitable, questions remain over how aggressively the Fed might raise interest rates. Strong payroll and inflation figures had bolstered expectations the Fed could pursue a half-percentage increase next month. However, some notably dovish minutes from the Federal Open Market Committee’s January policy meeting has subsequently tempered these expectations.
Elsewhere the uncertainty surrounding the Ukraine crisis has also infused volatility into the US dollar amidst the uneven risk appetite which followed Russia’s first incursion into the country.
In the coming weeks, the trajectory of the US dollar will no doubt remain linked to the Fed’s next interest rate decision. If the Fed opts for a more aggressive rate hike the US dollar might soar.
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