U.S. Dollar Extends Lower on FOMC, Are Investors Worried About GDP?

For the past week, investors have been selling U.S. dollars and, unfortunately, today at the July Federal Reserve monetary policy announcement, Jerome Powell’s team failed to shift the trend. Instead, the central bank warned that the virus poses considerable risks and it will use its full range of tools to support the economy.

In reaction, investors drove the greenback to fresh lows against all of the major currencies. The euro continues to receive most of the inflows, but sterling, Swiss Franc and the Australian dollar also saw significant demand. Although the greenback ended the day off its lows, it is still struggling to attract buyers. Part of this has to do with Powell, who said household spending recovered about half the drop, but business investment has yet to show recovery, the pandemic has left a significant imprint on inflation, higher food prices have added to burdens and the rise in virus cases will weigh on the economy. In light of rising coronavirus cases, deaths and expiring extra jobless benefits, no one expected optimism from Powell, which can explain the relatively muted response in the markets. Stocks held onto earlier gains, while Treasury yields ended the day lower.

Tomorrow’s second quarter GDP report is widely expected to reinforce the central bank’s concerns about the U.S. economy. According to Powell, this will be the worst GDP reading ever. The recent sell-off in the dollar suggests that investors have already priced in a soft report, but unlike Q1 GDP, the recovery could lose momentum in the coming months. Strong fiscal stimulus or a vaccine would be an immediate panacea, but the chance of either in the near term is slim. Investors are worried about GDP but their primary concern is what happens after extra unemployment benefits are replaced with a program that barely meets the needs for most Americans.

In contrast, the euro’s persistent strength reflects the market’s positive outlook for the Eurozone. Data continues to improve and for now, the outlook for Q3 GDP is brighter. So while German GDP growth is expected to contract further in Q2, a recession, if there is one, will only be a technical one. Reopenings have led to spending recoveries and, according to the latest reports, the biggest recoveries in spending are in France and Germany, where consumption has rebounded to near pre-virus levels. Investors have a close eye on the recent uptick in virus cases in Europe but for the time being, the pace of recovery, the control over COVID-19 and the general outlook for the Eurozone is brighter than the U.S., explaining the strong rally in the euro. In the entire month of July, EUR/USD fell only five days.

All three of the commodity currencies traded higher on Wednesday with the Australian dollar leading the gains. Australia’s inflation report was better than expected, with prices falling slightly less in the second quarter. Sterling also moved higher on the back of better mortgage approvals and a smaller decline in shop prices. Revisions to New Zealand business confidence numbers are due for release tonight along with Australian building approvals.