Euro-to-Dollar Rate Stalls as Germany Enters Recession and U.S.-China Crossfire Threatens Recovery

- EUR/USD capped as Germany slips into recession early.

- Seen biased toward range bottom but USD appetite key. 

- Data comes as U.S. retail sales set to collapse for April.

- And as fresh U.S.-China tensions threaten EZ recovery.

Image © Alfred Yaghobzadeh, European Commission Audiovisual Services

- EUR/USD spot at time of writing: 1.0812
- Bank transfer rates (indicative): 1.0435-1.0510
- FX specialist rates (indicative): 1.0615-1.0706 >> More information

The Euro-to-Dollar rate stalled Friday after Germany slipped into recession earlier than was expected while fresh tensions between the U.S. and China threaten the global economic recovery, which could dominate the outlook for both the greenback and single currency up ahead.

Europe's single currency had been cautiously attempting to capitalise on the ebb of an earlier advance by the Dollar but was itself checked when Destatis said the Germany economy shrank by -2.2% last quarter, in line with expectations, before revising down its previous estimate of growth for the final quarter 2019. 

Last quarter brought the largest fall in German GDP since 2008. Investors were well prepared for that, although not for the revelation that the economy also contracted in the final quarter of 2019. Destatis says output from Europe's largest economy fell -0.1% late last year when it had previously suggested no change in the value of GDP, which means Germany entered recession before the even worse hit that still looms for the three months to the end of June. 

"The German economy has been tip-toeing on the edge of recession since the beginning of 2019, but it can hide no longer. The revision to Q4 means that the economy entered a technical recession at the start of the year, and this before the incoming collapse in Q2 activity. The headline story is similar to elsewhere in the Eurozone. The Covid-19 epidemic did not impact activity in January and February, but the hit in March was more than enough to ruin the quarter as a whole," says Claus Vistesen, chief Eurozone economist at Pantheon Macroeconomics. 

Above: Euro-to-Dollar rate at hourly intervals with 21 (blue), 55 (red) and 200-hour (orange) moving-averages.

"Uncertainty remains very high, given the Covid 19 effect. We also have a Eurogroup meeting today but any meaningful announcement seems unlikely. EUR/USD to stay around the 1.08 level today," says Petr Krpata, chief EMEA strategist for interest rates and bonds at ING. "US April retail sales and industrial productionshould show a dismal picture as the lockdown only kicked in from mid March (meaning the previous month was not fully effected and in April there was no panic-buying of groceries). Even for backward looking indicators, to the extent to which they prompt concerns about the pace of the recovery and keep risk sentiment fragile, it should be non negative for USD."

Germany's figures came just before Eurostat confirmed a -3.8% contraction for the broader Eurozone economy that's widely expected to be followed up by even larger falls for both in the second quarter. The size of declines matters because it dictates the depth of the hole that must be backfilled in the global economic recovery, which came under threat this week and last from the prospect of another round of U.S.-China trade tensions. 

"Germany's economy contracted at an annualized pace of more than 8.0% in Q1. The big question facing the Euro zone's largest economy is not "how quickly can it bounce back?" It's "how quickly can it reinvent itself?"," says Stephen Gallo, European head of FX strategy at BMO Capital Markets. "The pair has not managed to record two or more consecutive closes below 1.08 since late-March. That period was the height of financial market stress, so a repeat of that type of price action in EURUSD would be reasonably important - at least in terms of FX market sentiment."

Gallo says the health of Eurozone banks will be an important barometer for the Euro-to-Dollar rate going forward and that this "barometer is flashing red."

Above: Euro-to-Dollar rate at daily intervals with 200-day (orange) moving-average.

The Eurozone banking sector is a big place but there are large parts that had weak capital buffers to begin with and were burdened by heaps of bad loans that can only grow larger amid the coronavirus crisis and simmering trade tensions. Furthermore, and in some parts, already-weak capital buffers are heavily invested in bond markets that are themselves at risk of capital flight amid concerns about the crippling cost of the coronavirus containment effort.

"EUR/USD is weighing on the downside and has started to erode the short term uptrend. It was only a slight erosion and we have re-drawn the line. It is essentially still side lined but under pressure in its range. Below we have minor support at 1.0766 and the 1.0727 24th April low. This guards the 1.0636 March low and the 1.0340 2017 low. Rallies will find initial resistance at 1.0897, this weeks high, ahead of the 200 day ma at 1.1019," says Karen Jones, head of technical analysis for currencies, commodities and bonds at Commerzbank.

Friday's Eurozone GDP data hit the wires hours before the Census Bureau is expected to reveal just how big a blow the coronavirus dealt to the U.S. retail sector in April, with markets looking for a -8.6% fall. However, and as is often the case with the Dollar, a worse-than-expected number might not necessarily undermine the greenback given its safe-haven characteristics and the adverse read-across for the global economy. 

"Given the euro area’s high beta to global trade, we expect more global uncertainty around the pandemic to keep any upside capped. Politically, the European Union is hamstrung, further restricting the region’s ability to appropriately respond to the current crisis," says Daniel Been, head of FX research at ANZ, who sees 'fair value' for the Euro-to-Dollar rate around 1.07 and has a "mildly bearish" outlook for the single currency.  

Above: Euro-to-Dollar rate at daily intervals alongside USD/CNH rate (red line).

President Donald Trump told Fox News on Thursday "we could cut off the whole relationship" with China, as the two sides seek to implement the 'phase one deal' that ended the trade war between them while also trading accusations over the coronavirus. China is said to be seeking a renegotiation of the pact, which the White House has refused, while President Trump appears to be coveting a reckoning over the origins of the virus and the government's handling of it. Thursday's remarks came with lawmakers legislating and citizens litigating in the courts over allegations that the Chinese government attempted to cover up the coronavirus when it first appeared in Wuhan, rather than recognise the problem and then notify international bodies as well as counterparts.

"That the euro is still in positive territory is perhaps surprising to some. On the one hand it reflects the fact that it has been essentially stuck in a low range since January 2015. Furthermore, this year it's up against everything in its time-zone except for the CHF and ILS. That supports the TWI but the the more the trade-weighted value holds up, the greater the danger that EUR/USD can edge lower, which matters when chartists are talking about congestion and triangle formations," says Kit Juckes, chief FX strategist at Societe Generale. "EUR/USD is too weak already to fall fast, but EUR/JPY remains a core short."

Major economic data rarely goes unnoticed by markets even when its message was widely anticipated although trade tensions between the U.S. and China are arguably more important for the Dollar and for the Euro going forward, given the greenback profited handsomely from the trade war between the world's two largest economies while the trade-oriented Eurozone suffered more than both protagonists in the saga. With the Euro and Eurozone already burdened by their own problems, neither needs a trade war at the bottom of the coronavirus trough although if one does break out it could sink not only China's currency but Europe's too because of their often-positive correlation.

"With many market participants apparently optimistic on the possibility of the National People’s Congress meetings starting 22 May producing new pro-growth fiscal measures that boost CNH in the process, we instead focus on the risk that either insufficient measures on that front and / or trade and political risks create the opposite effect. A new test of 2020 USDCNH highs around 7.17 looks a distinct possibility in the weeks ahead," says Shahab Jalinoos, head of FX strategy at Credit Suisse.   

Above: Euro-to-Dollar rate at weekly intervals alongside USD/CNH rate (red line).