Dollar tumbles after SVB collapse, EUR/USD rate attacks 1.07 (Daily analysis 13.03.2023)

The collapse of California's Silicon Valley Bank pushed the US labour market data into the background. In the currency market, the US dollar became a victim of turmoil in the US banking sector. The USD exchange rate is plummeting sharply as confidence grows that the situation will force the Fed to change its stance again and prevent a return to sharp interest rate rises. However, decisive action by the US authorities quickly subdued the market panic and put a dam on the upsurge in risk aversion. This week, attention will focus on US inflation data and the European Central Bank meeting.

Dollar: labour market data take a back seat

In February, 311,000 full-time jobs were created in the US non-farm sector of the economy. The change in employment turned out to be higher than forecasts at 225 000. Wage dynamics, on the other hand, were disappointing. Wages and salaries were 0.2% higher than a month earlier, translating into a 4.6% y/y growth rate. The unemployment rate rebounded from its lowest level since 1969 of 3.4% to 3.6%. It should be remembered that the January jump in employment came as a shock to the markets. In the first month of this year, more than 0.5 million full-time jobs were added in the USA, more than twice the average in the previous year's fourth quarter. What's more, the figures for previous periods were heavily revised upwards. It is safe to say that those data turned upside down the perception of the labour market, which is crucial in the eyes of the Federal Reserve, and with it, the Fed's intentions.

As a result, the previous report signalled the dollar to jump. It also proved to be the impetus for the US currency to break out of its months-long sell-off. It was a cold shower for investors who had previously downplayed the Fed's determination to continue hikes. At the beginning of February, it was assumed that their cycle could end in March, after a 25bp move and with rates in the 4.75-5.00 range. After Jerome Powell's speeches to Congress in the middle of the past week, the market was beginning to get used to a higher target for the cost of money by almost a full percentage point. Moreover, it was pricing in a greater than 70% probability that the FOMC would raise rates again by 50bp at its meeting on 22 March. Friday's readings were expected to be the most important argument for the Fed (next to Tuesday's scheduled release of inflation indexes). At the moment, the market is losing faith that the Federal Reserve will raise interest rates by at least a quarter of a percentage point. As a result, the EUR/USD exchange rate is rising above 1.07, making the dollar's month-long strengthening correction wobble in its tracks.

The dollar: authorities' swift response to the SVB collapse

Clearly, the readings from the labour market are not responsible for the lowering of the likelihood of not only more aggressive but indeed any rises. Financial markets have been alive since Thursday with worrying reports from the interface between the financial sector and the new technology industry. The fall of Silicon Valley Bank, one of the key institutions for funding Silicon Valley start-ups and technology companies, is the largest bank failure since 2008 and the third largest in US history. SVB's assets were around 200 billion USD, placing it towards the end of the second ten largest US banks.

Silicon Valley Bank was closed by the regulator after failing to raise capital in the face of a run, i.e. a massive withdrawal of deposits by customers. In this case, it was a very specific group: tech start-ups, funds focusing their activities in the new technology area, or the cryptocurrency industry. The underlying cause was unrealised losses on the bond portfolio, and the institution's position was complicated by a high concentration of deposits (only 10% were retail client funds) and insufficient risk management. The business model was created in an era of zero interest rates and did not survive an attempt at aggressive monetary tightening.

The situation reminds investors that the consequences of Fed policy and the hikes of the past year are yet to come to light. It is a factor that FOMC members need to keep at the back of their minds when deciding how hard to tighten policy in March. The scale of tensions in the banking sector, further reactions from the authorities and the potential spillover of the SVB's collapse into the mess of other institutions will dictate the course of quotes in the coming days. The market does not seem to believe in the possibility of a ripple effect, and the initial panic has quickly died down, thanks in part to the decisive steps taken by the authorities and the launch of a new tool by the Fed to support liquidity in the banking sector and save deposits. This can be seen, among other things, in the sharply rebounding stock index contracts.

Macroeconomic calendar: inflation from Poland, inflation from the US, ECB decision

In addition to reports from the US banking sector, investors will have plenty of important data and events to digest. On Tuesday, a picture of price trends in the American economy will be known. CPI inflation is expected to decelerate from 6.4 to 6.0% y/y, with core inflation momentum remaining around 5.5% y/y. The data will be released at 1.30 p.m. In the US, the time has already been changed to daylight saving time and the time difference will be one hour down for the next two weeks. The rash of macro data will be completed by the first of the regional economic barometers, retail sales data (Wednesday) and industrial production and consumer sentiment index (Friday).

In Europe, the highlight of the week will be Thursday's meeting of the European Central Bank. The Governing Council has prepared the markets that it will raise rates by half a percentage point in March, which will push the deposit rate to its highest since 2008 at 3%. It should be recalled that as recently as mid-2022, the rate was at -50 basis points. The most important factor for the euro against the dollar, the franc or the pound will be the sharpness of the tightening plans for May and the next few months. At the moment, a faction of restrictive policy advocates holds the steering wheel at the ECB, and if it continues to set the tone and the Fed refrains from over-tightening, the EUR/USD could climb to this year's new highs and this time, permanently push through the 1.10 ceiling.