Forex Magnum


EUR USD – October Outlook

Autore: FX Empire Staff - James Hyerczyk

The EUR USD ended September near its low for the month, suggesting that the downslide which began in May at 1.4940 is likely to continue. Selling pressure was coming from traders anticipating a rate cut by the European Central Bank and from growing concerns that Euro Zone finance ministers were losing control of the sovereign debt crisis.

Although much of the talk for the month centered around whether Greece would default on its financial obligations and if the members of the Euro Zone would deliver the tranche of aid promised to this struggling nation way back in July, the real issue – investor confidence – began to clearly float to the surface.

Failing stock markets, slowing economies and declining bank equity prices were all signs that Greece wasn’t the main issue but rather this entire situation was starting to become a crisis in confidence. While Euro Zone finance ministers were busying themselves with Greece, financial aid and financial austerity, the financial markets were crumbling. Traders were reacting as if the Euro Zone officials were oblivious to what was going on all around them.

As it turned out, they weren’t paying attention to the financial markets. So while the global economy is teetering on the brink of another recession and Euro Zone banks have stopped lending to each other, bank capitalization issues are beginning to move to the forefront. Slowly E.U. officials are beginning to realize that confidence is the issue not Greece. Slowly they are beginning to finally understand that their real issue is to save the banks through a program of recapitalization rather than bailing out Greece. A crisis in confidence triggered by bank failures could take out the whole financial system and could prove to be more expensive than rescuing Greece.

The markets are saying that E.U. officials should act now because they are running out of time. It could be a matter of weeks at this point before the situation gets extremely bad and almost irreversible. The first step has already been taken by the finance ministers because they have finally admitted that they were not paying attention to what the financial markets were telling them because their entire focus has been on Greece.

They also seem to have lost focus on the European Central Bank’s mandate to protect against inflation and to keep the Euro stable. It is not responsible for fiscal problems such as making moves to shore up countries having sovereign debt issues. Its sole responsibilities are to design and implement monetary policy.

This being said, during October the European Central Bank is likely to cut its benchmark interest rate. The size of the cut is going to be between 25 to 50 basis points. At the same time, it may provide liquidity measures for the banks so that they can once again begin lending to each other. Once this liquidity issue is resolved then money may become available for businesses and consumers.

By following this process, the central bank will ensure that it is adhering to its mandate. It cannot afford to be bogged down by the issues regarding Greece and other ailing sovereign nations. Its mission at this time is to provide liquidity to shore up banks and boost the economy. Traders are likely to react positively to any fresh liquidity measures, but any rally is likely to be short-term as investors will once again be asking for a long-term solution to the debt problems plaguing the Euro Zone.

Fundamentally, the E.U. finance ministers may not be doing enough to shore up the financial stability of the region, but if they can demonstrate a bona fide effort then maybe short-sellers will begin to lay off the banks and financial institutions. If they can restore confidence in the region then maybe banks will begin lending once more and consumers will begin spending again.

Greece and the other sovereign debt issues are not going to go away overnight, but acknowledging that confidence in the financial system is the key issue will mean that the E.U. officials are on the right path. Continuing this notion throughout October could underpin the single currency for the month, but it may not be enough to turn the trend to up. As long as recapitalization of the banks and providing liquidity for the financial system remains the focus then the Euro may stabilize. Any signs that officials are ignoring the confidence issue and refocusing on sovereign debt could mean fresh selling pressure.


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