Sentiment has improved (Daily analysis 09.07.2018)

Has the market forgotten about trade risks? A strategy for exit from the EU and a new person appointed as Secretary of State for Exiting the European Union has so far been neutral for the pound. The zloty benefits from a better sentiment. The EUR/PLN pair in the range of 4.33-4.34.

The most important macro data (CET - Central European Time). Surveys of macro data are based on information from Bloomberg unless noted otherwise.

• A lack of macro data may noticeably impact the analyzed currency pairs.

What next with the customs?

Reports regarding foreign trade dominated the beginning of last week. Back then, there was a culmination in the depreciation of more risky assets (e.g. currencies of emerging countries). Today, however, the sentiment is much better. Does this mean that investors have become used to the threat and that customs duties will have little effect on the overall economic situation?

First of all, the market still believes that the current trade problems are only temporary and will ultimately lead to a real reduction in trade restrictions (during the negotiation process). If this rule is not followed (e.g. further duties have been applied - on goods worth 200 billion USD imported from China), then fear could return very quickly.

It is a mistake to assume that the Chinese side has tied hands when it comes to retaliation because US imports are relatively limited and Beijing will not be able to match the US with duties of a similar force. However, the Middle Kingdom may apply restrictions other than those of a customs nature. These include slower customs clearance, increased bureaucracy, systemic obstacles to investment for US capital and even a boycott of US goods. All of this may be a bigger problem for both economies than the actual tariffs. As a result of further hypothetical episodes of conflict escalation between Washington and Beijing, the fear may return to the market at some point and it may be much greater than the one we saw at the beginning of last week, even if after many months everything will actually end in a positive outcome.

Changes in the British government

Yesterday, David Davis, Secretary of State for Exiting the European Union, resigned late in the evening. This was due to last week's arrangement regarding departure from the EU in Prime Minister Theresa May's cabinet. According to a short document (the full text is expected to be published on Thursday), the UK would like to maintain relatively free movement of goods between the EU and its Member States (without physical border control). This would also eliminate problems related with the border of Northern Ireland (part of the UK) and the Republic of Ireland.

Theoretically, Prime Minister May prefers a softer Brexit. Davis' resignation (and the appointment of Dominant Raab) means a weaker negotiating position with Brussels. Very little is known about the trade in services, which is much more important for the UK (lack of access to the common market puts the financial sector, law firms, transport or engineering companies in a disadvantageous position) than, for example, slight restrictions on trade in goods.

In addition, it is unclear whether the Union will try to maintain part of the EU's 4 fundamental freedoms (movement of capital, goods, services and people). The British are trying to choose what is convenient for them at the moment, but the EU is rather sceptical about 'picking goods out of the cake'. It is also worth remembering, the unstable situation of the government (the risk of early elections) and the opposition heading for extreme socialism, which, apart from wanting to repeat the referendum, has little to offer in the context of economic reforms. Overall, although May has taken a step towards a slightly milder Brexit, it is hard to evaluate it as a positive sign for the pound. Therefore, a limited reaction on the sterling also seems to be justified.

The zloty is supported by positive sentiment

Although the discussion on the expansions of the customs conflict is ongoing, some investors have considered that the next part of the tariffs may not be introduced quickly and that the next few days could be used for behind the scenes negotiations. This helps the emerging market currencies (the yuan has appreciated about half a percent against the dollar today). As a result, the zloty is also stronger and the EUR/PLN falls to 4.33-4.34 level.

In the coming hours or even days, the sentiment should not deteriorate significantly. Relatively good moods may even bring the EUR/PLN pair around 4.30, but the general fear of foreign trade is likely to return, and it is possible that it will lead to a noticeable weakening of the zloty along with exceeding the last highs on both the dollar and the euro.