Dollar and yen to strengthen due to safe-haven flows – Rabobank

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The US dollar and the yen will continue to strengthen in the following months as their safe-haven appeal grows, despite rising downside risks to the countries’ domestic economies, according to Rabobank.

The Dutch bank topped this week’s three-month G10 currency forecast.

The greenback will outperform major G10 currencies except for the yen on a three- to six-month horizon, but is likely to give back a little ground on the back of anticipated US Federal Reserve rate cuts in 2020, says Jane Foley, head of FX strategy at Rabobank.

“I maintain the view that US fundamentals should not be considered in isolation when forecasting the outlook for the dollar,” says Foley. “Against the backdrop of slower world growth and trade wars, we expect the dollar to remain well supported against a broad basket of currencies.”

G10 central banks – except Norges Bank and the Bank of England – have followed the Fed’s softer policy position since the start of the year, contributing to the rise of the US dollar index since January. 

Foley says: “It is likely that the relatively attractive interest rate differential has boosted the dollar’s safe-haven appeal.”

Rabobank forecasts a weaker euro against the dollar in the following months, citing sluggish eurozone growth, Italian budget tensions and changes in leadership at key European Union institutions, including the European Central Bank. Meanwhile, the dollar benefits from safe-haven flows.

While this is a textbook negative factor for a currency, the credibility of the US Treasury has meant the budget outlook has not yet been a significant constraint on the US bond market or on the dollar

Jane Foley, Rabobank

Fiscal policies will have a limited impact on the dollar this year, as the effect of US president Donald Trump’s tax breaks is running off, Foley says. As a result, the US economy is likely to grow at a slower pace, compared with the past few quarters, and the deficit/GDP ratio is expected to worsen.

“While this is a textbook negative factor for a currency, the credibility of the US Treasury has meant the budget outlook has not yet been a significant constraint on the US bond market or on the dollar,” says Foley.

However, the greenback will face headwinds next year if the Fed cuts rates, she adds.

Yen strong despite recession risk

The yen has been appreciating against the US dollar since the escalation of US-China trade tensions in early May. Rabobank says the yen will continue to climb against the greenback and other major currencies, while the Japanese economy faces the risk of recession due to a planned sales tax hike in October.

“In view of the current vulnerability of the Japanese economy, and the historic connections between higher consumer tax and recession, there are real reasons to be concerned about the impact of this year’s planned tax hike,” says Foley.

But, in this case, the yen’s safe-haven status means the currency will be driven more by global and geopolitical events than domestic developments.

“Consequently, we see scope for the yen to strengthen this year, despite the risk that the Japanese economy could weaken,” says Foley.