Turkish Lira's Collapse Triggers Flight to Safety
What’s been happening?
Pound Sterling – UK Markets
The pound extended its losses against the dollar on Friday and recorded strong gains against the euro, which came under heavy selling pressure after the Financial Times pointed out the high exposure of European financial institutions to Turkey. Meanwhile, the monthly report released by the Office for National Statistics showed that the UK’s gross domestic product was expected to expand 0.4% in the second quarter of 2018 following the first quarter’s 0.2% growth. Despite the upbeat data, however, the publication pointed out that the economic activity was expected to continue to lose its momentum.
“The pick-up in Quarter 2 reflects, to some extent, consumers taking advantage of the warm weather and World Cup celebrations. However, Figure 2 shows that abstracting from these quarterly movements, the underlying trend in real GDP is one of slowing growth. The UK economy grew by 0.6% in the first half of 2018, compared with the second half of 2017 – continuing the declining trend seen since the second half of 2014,” the ONS said.
A separate report released by the ONS revealed that the total trade deficit in the UK widened £4.7 to £8.6 billion in three months to June as exports fell while imports continued to rise.
US Dollar – US Markets
The US Dollar Index, which tracks the buck against a basket of six major currencies, rose to its highest level in more than a year at 96.45 on Friday to reflect the broad-based USD strength. In addition to the increasing demand for the safer-dollar amid the EM meltdown, Friday’s data from the United States provided an additional boost to the greenback.
The US Bureau of Labor Statistics on Friday reported that the CPI rose 0.2% on a monthly basis in July to keep the annual rate steady at 2.9%. More importantly, the core version, which excludes volatile food and energy prices, advanced to its highest level in nearly a decade at 2.4% on a yearly basis in July from 2.3% in June and surpassed the market consensus of 2.3%. Friday’s inflation figures confirmed a 25 bps rate hike by the Fed in September and lifted the probability of one more hike in December to 65.3%, according to the CME Group FedWatch Tool.
Euro – European Markets
The euro weakened to its lowest level against the dollar in 13-months on Friday and erased the majority of its gains that it recorded vs. the sterling during the first half of the week. Citing two people familiar with the matter, the Financial Times claimed that the ECB was growing concerned over the eurozone banks’, especially exposure to Turkey.
“The ECB is concerned about the risk that Turkish borrowers might not be hedged against the lira’s weakness and begin to default on foreign currency loans, which make up about 40 per cent of the Turkish banking sector’s assets,” the article read and quoted a study published by the Bank of International Settlements that revealed Turkish borrowers owed Spanish banks $83.3 billion while French and Italian banks were owed $38.4 billion and $17billion, respectively. Both the German DAX 30 and the European Euro Stoxx 50 indexes lost 2% on the day, and the UK’s FTSE 100 erased nearly 1%.
What’s coming up?
UK: There won’t be any macroeconomic data releases from the UK on Monday, and the pound is likely to preserve its strength against the euro while remaining vulnerable against the greenback.
US: The U.S. Department of Treasury is going to conduct 3-month and 6-month note auctions on Monday, which are likely to be ignored by the participants.
EU: An empty economic in the eurozone will leave the shared currency at the mercy of investors’ risk perception on Monday.