Ever since central banks started emergency easing measures back in 2008-09, policy-makers have struggled to know what the post-crisis world would look like. Many have called this “the new normal”. This matters for FX, because we’re at the point where we are starting to see divergent central bank policies (which have increased both volatility and trends), but if they are to continue, then it requires current assumptions to be proven correct. This has rarely happened over the past few years.
There was a pretty early agreement that the pre-crisis growth rates were not going to return, not least because to varying degrees, growth was reliant on both rising debt and also asset prices, with the two often inter-linked (especially in relation to housing). Even in the US, who have led in terms of post-crisis growth, annual growth has not once hit the 3.4% average seen in the pre-crisis period. In the latest FOMC projections released in September, not even the most bullish forecast had growth above this level next year (in contrast to the June projections).
There was also a belief that we would see policies push inflation higher, which has not proven to be the case. For the US, the Fed’s favoured inflation expectations gauge is at the lowest level for more than 3 years. At some point, we’re going to have to wake up to the fact that the ‘new normal’ has a lot more about it than simply just getting used to slightly slower growth. As for Japan, at some point we have to ask if the situation is structural, rather than cyclical and the longer it lasts, the more likely is it that the former is true.
So, even if growth does hold up in 2015 (at a slower pace vs. 2014), it’s far from clear that inflation is going to recover against the backdrop of low real earnings growth, a modestly firmer currency and a weak oil price. This is hardly the backdrop against which the Fed is likely to start signalling its intention to raise interest rates, even if by only a modest amount. As such, I don’t expect that the Fed will raise rates next year as a base scenario. If they do, then it will be at the tail end of 2015.
As previously mentioned, there is only so far the dollar can deviate from other currencies with minimal carry, such as sterling, euro (less so the Swissie and yen) so long as rates are kept steady. Furthermore, the impact of QE on currencies has diminished through time, so even if more QE is sanctioned, the impact will be far less than was the case in the early days of the crisis.
The coming year is going to move back to the 2012-13 and 2014-H1 tendency for shorter trends and tighter ranges. It means that macro trend-following strategies will once again find it tough going. So whilst our headline forecasts may appear ‘boring’, the dollar will be anything but if you are taking a longer-term view.