German court ruling update

Forex

The euro and Euro-area sovereign bonds dropped but were not exactly going into freefall after the German constitutional court gave a mixed ruling on the ECB’s bond buying programme. Judges said the asset purchase programme partially violated the German constitution, but on a key point it did not say the ECB’s actions constituted monetary financing. And it said the ruling has no bearing on the Pandemic Emergency Purchase Programme for the Covid-19 response.

Relating to long-standing Public Sector Purchase Programme going back some years under Mario Draghi, the court said the ECB needs to show that the scheme is ‘not disproportionate to the economic and fiscal policy effects.

Essentially the Bundesbank won’t be allowed to take part in PSPP unless the ECB proves, within the next three months, that QE was proportionate. If not, the Bundesbank won’t be allowed to take part, and would need to pay back bonds already bought under the scheme.

Without being German constitutional experts, it seems to boil down to the central bank ‘proving’ to a German constitutional court that its actions were taken in good faith and were proportional to the economic risks. Are the German judges saying the ECB didn’t know what it was doing? How do you retrospectively argue that your actions were proportionate? It seems absurd to think that the ECB ever committed to anything that it considered disproportionate.

PEPP is not affected by the decision, despite the looser rules. This may imply that it is already viewed as ‘proportionate’, in the eyes of the judges. However, the point was this case dates back years to PSPP and never was about PEPP – what is to stop cases being lodged now in relation to PEPP?

Fundamentally, anything that throws doubt on the ability of the ECB to provide the backstop to the bond market is a concern. The market is trying to figure this one out as the ruling is complex. For now, downside risks persist for the euro and bonds, especially peripheral debt, will be under pressure. We await the ECB’s response with the utmost interest.

Little help for rangebound yen likely from Bank of Japan commentary

Forex

The Bank of Japan releases its Summary of Opinions and monetary policy meeting minutes this week. Policy normalisation is moving at a glacial pace, so the safe-haven yen is unlikely to find support on the latest comments from policymakers.

Central banks around the world are tilting towards the dovish end of the spectrum. This is epitomised by the futures market’s pricing in of a rate cut from the Federal Reserve this year. However, when it comes to caution, the Bank of Japan is the archetype – it was the first to implement quantitative easing and continues to pump trillions into the economy while tinkering with the yield curve and keeping rates negative.

The plan is unlikely to change any time soon, especially now that global conditions appear to be weakening. There is little certainty on a macro level to suggest the BOJ’s work is anywhere near done, even if the fears of a worldwide recession that tanked markets at the end of 2018/beginning of 2019 were overdone.

This leaves the yen facing more of the same; a narrow trading range against its major peers.

USD/JPY edges higher as fears over US growth fears ease

The US dollar has been slowly pressuring the yen lower over the course of the past few months. Strong US data has helped ease fears over the need for the Federal Reserve to pivot too severely into dovish territory.

EUR/JPY rangebound as ECB and BOJ battle for dovish crown

The EUR/JPY pairing was almost slap-bang in the middle of its multi-week trading range at the time of writing. While the European Central Bank could bring quantitative easing back into play later in the year, which would be yen-supportive, the long-term outlook remains that it will be the weakening of overseas policy outlooks that push JPY higher in the near-term, not the machinations of its own BOJ.

Yen unable to take advantage as Brexit uncertainty keeps pound floored

GBP/JPY is just a pinch overbought on the Relative Strength Index. The chart above shows how the pairing has settled into a narrow channel over the past few weeks. Brexit uncertainty is keeping sterling on pause, however the yen is unable to capitalise on this due to the lack of optimism surrounding Japanese monetary policy.

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