Impact of the Coronavirus on the Forex market

As the main engine of the currency exchange market, how the US Dollar is reacting in troubled times caused by the coronavirus pandemic? The world economy is deeply affected in many ways, though Forex market shown a relative stability, in comparison with ups&downs of stock market or even commodities.

Is this situation going to last?

Unfortunately, this question may remain unanswered for the moment, that is because governments, society and obviously the simple citizens cannot predict, assess or quantify fully the total effects in terms of size and duration. What is certain is that the pandemic is taking a big toll on the economy that will last for a lot more than the pandemic itself.

Initial market impact and Federal Reserve actions

If we focus on USD/EUR, shown a relatively stable performance until late February, when a potential global pandemic started to grow, and since Europe was the worst hit at the time, EUR started to weaken and the quite fast reaction of US Federal Reserve helped to stabilize the exchange rate again. Its first action was to cut interest rate close to zero, around mid March. Trend of February/March is clearly visible from the chart below:

From where we are coming

If we look at the past, the USD/EUR pair had a pretty constand and slow upside trend in the last years (which means the dollar gained ground over the Euro currency). This can be explained with the lack of action from the ECB (European Central Bank) to raise interest rates, while the Fed tried to do so in order to build sufficient assets to be able to manage a potential new economic crisis; these actions started to contrast with economic and political policies that president Trump was moving forward, especially starting from Spring 2019, and the Federal Reserve begun to reduce interest rates again, a factor that may had helped to sustain the economic growth of the USA at the time.

The Coronavirus pandemic changed the economic perspective globally, and subsequently all plans and hypothesis of the central banks. Many suffered already of fragile monetary base in the struggle to pass over the last global financial crisis of 2007-2008; this crisis and the policy of economic “stimulus” undertaken by the Fed and other instituion can expose to vulnerabilities and uncertainties. It is simply not possible to predict what other measures will have to be taken to sustain a global economy that was impacted in an unprecedented way, and potentially going to last at least until year’s end.

Another factor of uncertainty is what will happen with the reimbursement (if any) of all these loans and the subsequent measures taken by institutions; will it be needed to buy also mortgage debt and bond s with a lower than standard rating? Nobody knows what might happen in a few years times as well, when bad returns on loans will start to impact governments and banks. Will they “simply” print money? Governments, especially US, are creating debt to fix the short term turbulences, but opening in return a window for long term trouble, and that surely could impact the dollar in the long run.

In conclusion

Despite all of this, there is some agreement on the power and attraction that the Dollar maintains, that in the mid term (months) should not be heavily and negatively affected, despite an uncertain economic cycle for the USA. A clear indicator of the troubles was the free-fall of Oil price in April, a domino effect that highlighted the fragility of the system. EUR, JPY and GBP, other main competing currencies, are all suffering for various reasons including internal factors, and there is no sight that those will be easily and quickly solved.

For all these reasons the US Dollar can be seen in the following weeks navigating in the interval we saw in the recent months (0,88-0,93 against EUR and similar pattern with other main currencies), clearly with an higher volatility but without a defined strong trend upwards or downwards. What will be very interesting to understand is what will happen from September onward, with the third quarter datastarting to surface and the risk of a potential second wave of the pandemic in Autumn; it won’t be an easy year from the beginning till the end.

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