Geopolitics paramount for German elections and BoJ, too?
By John J. Hardy, Global Head of Macro Strategy at Saxo
Geopolitics remain at the top of the agenda, not just in the German elections this weekend, but possibly too for the BoJ. Is that why the JPY has bolted higher here?
Trump administration mayhem, Trump 2.0, Day 31
Trump and his administration continue to dominate the headlines over the latest news cycle since yesterday as we have everything from Trump’s harsh criticism of Zelenskyy and blaming the Ukrainian president for having started the war with Russia to Elon Musk floating the idea of handing out USD 5,000 checks to all Americans for all the money the DOGE will save on government spending. How committed the US is to supporting Ukraine in any deal with Russia is critical for the EU outlook and for the euro, as I have outlined in previous comments. The chunky surge in longer EU yields points to a major fiscal expansion in Europe – especially for Germany which runs almost no deficit, whereas the deficit-addled French budget will be in for a major shift in priorities, which will be difficult to pull off with the dysfunctional political backdrop there.
Best yet, the US State Department has recently snubbed China by removing the “People’s Republic of“ in referring to the name of the country. More inflammatorily, it also recently removed the phrase “we do not support Taiwan independence” from its fact sheet on relations with Taiwan, which is already eliciting a Chinese response. Yet Trump was out yesterday touting he will seek a bigger and better deal with China after he blamed Biden for not pushing China to adhere to the prior deal.
Yesterday, the FOMC minutes revealed a discussion of reducing or pausing quantitative tightening (QT), which put a top on the US dollar rally as yields fell slightly. That discussion is no major surprise as it has widely been seen as inevitable that the Fed will have to stop QT due to concerns on reserve balances if Congress can’t agree on a spending deal and the debt ceiling comes into play again.
USDJPY breaks down ahead of Japanese CPI figures up tonight. Why?
USDJPY broke down quite heavily overnight, slicing through the 150.93 range support easily. There was no proximate trigger for the move save for a favourable if modest rally in US treasuries. Japan reports its January CPI data tonight, supposedly an important input in coming rate decisions, although the BoJ has touted ongoing wage negotiations as one of the most decisive factors. But I wonder if the force of the follow-up rally in the JPY here could be down to another source. Could it be that the market suspects that the Japanese government will view BoJ policy levels and especially yen levels as an important input in its relationship with the Trump administration? In other words, Japan has a long-standing persistent trade surplus with the US and has a very weak currency versus the US dollar and a very low policy rate, even if it has come well off zero. If a reasonably stronger yen is now a national priority rather than simply left up to market forces, the JPY could strong outperform relative to our normal coincident indicators like the level of long US treasury yields as Japan’s governments makes a concerted effort to move the needle. End of Japanese financial year volatility into March could also prove a factor. This is conjecture at this stage based on inference – the ongoing price action and whether 150.00 can be taken out before and after the CPI data as well as follow-up moves relative to coincident indicators will provide increasing evidence whether this hypothesis is on to something.
One interesting data point: On Tuesday, the US Treasury department data on foreign holdings of US treasury debt for the month of December showed Japan’s holdings falling USD 27 billion to reach their lowest level since 2019. Current holdings are at USD 1.06 trillion versus the 2021 high of 1.325 trillion. The January data point will be released March 19.
Looking toward the German Election
The election this Sunday will be worth following closely. The polls suggest that CDU is set for a strong comeback, to get perhaps 30% of the vote, but given that the AfD (polling around 20%) are seen as political untouchables, the CDU will have to ally with the SPD (polling around 16%) or the Greens (polling 13%) to form a government. The only other party sure to achieve the 5% threshold for representation of its party in the Bundestag is Die Linke (polling about 7%). With that threshold in mind, note that the Bundestag seat percentages are greater than the popular vote percentages based on the percentage of the votes that went to un-represented sub-5% parties. That means about a 12% boost in seats if 12% of votes went to parties that don’t clear the threshold.
Long story short: the nightmare scenario is one in which all three of the centrist parties (CDU, SPD and Greens) have to band together to keep the populist right and left parties out of government. This gives very few any satisfaction with the result, when the whole idea here is that the sitting SPD/Green government was meant to receive an ugly rebuke – only to see them end right back in the new government coalition!
Double nightmare scenario for the centrist parties that will see enormous pressure on the new government: all three of CDU, SPD and Greens underperform the polls by 2% or more each and the AfD hits closer to 25% and the Left (Die Linke) hits perhaps 8 or more% and is joined by the left populist BSW party that manages to clear the 5% threshold.
Market reactions to the German election
Regardless of political outcomes, the stark geopolitical situation will force a massive fiscal expansion from Germany in coming years. In the near term it is about how fast Germany is willing to ditch its traditional fiscal conservatism and the “debt brake” rules. A solid victory for CDU and the ability for it to form a government with only one coalition partner (SPD or Greens) would give the centre-right CDU a stronger mandate and might be the most EUR-positive on Monday. The “nightmare” and “double nightmare scenario” above might be read as Euro negative initially, but second order thinking could mean that it forces an ugly three-way coalition to open up the fiscal taps even more aggressively to keep the “populist wolves” at bay. One interesting angle is whether the AfD is seen as somehow having cozied up to the Trump administration, given the recent JD Vance speech at the Munich Security Conference criticizing Europe for marginalizing populist parties and violating democratic principles and Elon Musk’s cavorting around in praising AfD recently.
Further reading : click here
