Just stay calm!

The reason why capital markets are calm and exchange rates are increasing is that the world economy keeps getting stronger. It is especially true for Europe. The shadow of recession fading away and the economies recovering outweigh negative events such as populist policies gaining ground and certain European regions striving for independence, the challenges Brexit poses, and Trump’s unpredictability. John Hardy, currency market strategist at Saxo Bank, has more positive views on future policies and capital market developments in Europe and the USA.

Péter Zentai: Catalonia, the Brexit, nationalism and populism gaining ground, the migration pressure, the tension around North Korea, and Trump’s unpredictability… yet, capital markets seem to remain calm. Why?
John Hardy:
Primarily, because there is no sight of recession – not in Europe, America, or Asia.  We can see the exact opposite: the economy is getting stronger worldwide – and especially in Europe.  In the United States, it is quite likely that Trump will issue a major tax reform. As a result, there is a high chance that a significant and lasting conjuncture will begin in the world’s largest economy.

Meanwhile, the EU is on the brink of falling apart…
I, for one, do not agree with that, just like the majority of investors. Expanding the European integration has no other alternative. In the past decades, the EU has emerged stronger from every crisis. The euro has probably become the most stable aspect of global finances – it has not been changed by the Brexit, the German radical right getting into the Bundestag, the Southern European state debts remaining unchanged, or the migration crisis. Every economy in the EU, including Greece with its earlier struggles, seems to recover. The only exception is Italy.

In Austria, Germany, Italy, and France – not to mention Central and Eastern Europe – EU critical movements are gaining more and more political influence.
Populism gaining ground is indeed a threat. In both Western and Eastern Europe, many groups and influential experts are criticizing the decision-making system of the EU. Still, the majority of the national public opinion sees more advantages in the EU membership than disadvantages. Public survey results also support this. Just think about it: 87.5 percent of the Germans voted for openly EU-friendly parties promoting the continuation of the liberal western democracy. Yet, the media pinpoints and dramatizes that AfD gained 12.5 percent support. However, capital markets do not pay too much attention to the latter one, but they do care about the fact that the majority of Germans are still supporting integration.

Do you think that the Brexit, the AfD, and Catalonia’s attempts for independence make the EU stronger rather than weaken it?
That is exactly what I think, and everything indicates the same. Preserving the recovery that has begun in the EU national economies is becoming an existential interest of every government. In such a situation, the chance that someone would cross Macron and Merkel is quite low. In the shadow of the Brexit and other threats, it will be easier to implement reforms aiming at fiscal integration within the euro-zone than ever before. The union – primarily the euro-zone – will be transformed so that the long-term threat of populism diminishes. The first round of the recovery will probably cover the security policy: they will significantly increase security spending in order to aid the EU becoming a geopolitical power and its military-politic independence.

Fiscal easing could generate inflation, which could lead to ECB regulations…
Its time has not come yet. It is more significant in America. Adopting the tax reforms of President Trump has brought closer the deterioration of the budget balance. Fed will be in need to act, sooner than ECB.

What does it mean for currency markets and the dollar in particular?
We do not think that the dollar will be in an advantageous position in the long-term. It would not be an overstatement to say that the prime days of the American currency are over – simply because most of the leading regions are starting to avoid the dollar. The other major economic and financial power, China, does everything to make the yuan one of the world’s key currencies – and it succeeds in it. Oil and raw material producing countries are noticeably decreasing their dollar reserves, exchanging it to euro and then to local currencies or gold.
We believe that the dethroning of the dollar is irreversible but it does not mean that there is no chance that the dollar would get stronger against the euro in the near future. One of its root cause is that ECB has to maintain the zero-level interest rate and keep purchasing Italian government bonds in order to save Italy from financial collapse.

In the meantime, bubbles in the share and property markets keep on growing.
They do, indeed. However, the burst does not necessarily have to happen because the general state of the world economy, as an underlying factor, defines market developments. Currently, there is a global recovery developing and it is likely to become more dynamic, so there is only a particularly slight chance for a worldwide recession. Unless there is a geopolitical catastrophe, we have a reason to be positive – as for the European capital markets, primarily.

Original date of Hungarian publication: October 10, 2017