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Debt ceiling talks to dominate week ahead

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By Jameel Ahmad, Chief Analyst at CompareBroker.io  

Expect the last full trading week of May to be dominated by nothing but US debt ceiling updates.

This is the drum that I would expect financial market sentiment to beat throughout the week, especially as we edge nervously closer to the June 1 deadline where Washington might run out of money.

Former Fed Chair and current Treasury Secretary Janet Yellen has referred to the prospect of the U.S. defaulting as having catastrophic consequences.

As things stand, traders have not priced in an outcome that the ongoing pantomime in DC could go down to the very wire as the clock is ticking and this means that markets are in line to encounter a nervous atmosphere as the week progresses with no resolution.

In such a potential risk-off atmosphere, we can expect markets and risky assets such as Oil and emerging markets, to trend weaker. On the other hand, the US Dollar and Japanese Yen are the prime contenders of assets of safety that traders will look for.

This situation over the debt ceiling in the United States can very much be classified as pantomime. The “will they, won’t they” question should lead to a resolution to the debt ceiling being found.

Neither the Republican nor Democratic party can afford to be blamed for the unbelievable global uproar the U.S. running out of money would have, especially as we head into a year of presidential elections as a major event in 2024.

The overall view of financial markets is that the U.S. will avoid default.

Fed comments to help EURUSD?

The trend of selling the Eurodollar from last week is in line to hopefully pause ahead of comments from the Fed on US interest rate policy.

This week will see the latest Fed Minutes, where investors will be hoping for clarity from the Federal Reserve on the future outlook of US interest rate policy.

Any comments indicating that the Fed is either concerned about the aggressive pace of interest rate increases impacting the U.S. economy over the longer-term or confirmation that no more interest rate hikes are likely, can lead to a pause in the recent USD revival.

What can also help the EURUSD plant its feet at 1.08 is expectations that a divergence in monetary policy might actually be emerging in the ECB’s favour, after years of the scale being tipped in the direction of the Fed.

Should the Fed confirm that it is done with interest rate hikes or data releases from the U.S. suggest that is the case, hawkish comments from the likes of ECB President Christine Lagarde can present a helping hand to Eurodollar buyers.

We must also take into account that a flurry of bids for the US Dollar, should investors become nervous about narratives coming out of Washington, can send the EURUSD sharply lower in a blink.

USDTRY to find 20

It appeared to be only a matter of time, once it was confirmed that the Turkish presidential elections would face a second round and that the current President was in the driving seat, but USDTRY is in line to find 20 at any moment.

This would mean that the Lira has weakened to 20 against the US Dollar for the first time ever, meaning another record-low for the Turkish currency. The reasoning behind the Lira reaching new all-time lows, no matter how much in vain the Central Bank of the Republic of Turkey battle against it through intervention in financial markets, is because traders are pricing in the prospect of Erdogan staying in power.

Along with many other matters, the Turkish President has been an advocate of making public comments on central bank policy for years, including clear evidence of central bank independence being breached and central bank governors finding themselves suddenly replaced.

Such events will continue should there be no change in President, with this explaining why the Turkish Lira continues to find new record-lows.

The Lira has weakened by more than 340% against the US Dollar over the last five years and more than ten times its value if we look at the past decade. USDTRY was valued at 1.85 as of 24 May 2013.

This should be remembered as a lesson in textbooks for economics students for years to come when it comes to providing a recent case study on what impact central bank independence fears can have on your currency.

Think twice before expecting Gold to rally

While the prospects of the United States defaulting are bullish for Gold over the longer-term, potential nervous updates before the June 1 deadline will not necessarily lead to Gold aiming higher if the USD also surges.

Even though both Gold and the US Dollar are very much assets of safety, previous flashes of sudden rallies for the Greenback (such as the initial stages of covid) have unexpectedly been bad news for Gold.

This might also be the case this week should the US Dollar move higher as a result of concerning headlines from Washington.

 

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