War in Ukraine creating new trends in FX markets

The war in Ukraine has generated two clear effects in FX markets: the European currencies most immediately exposed to the war and its economic fallout have fallen against the US dollar, while most commodity currencies have strengthened as commodity prices continue to surge. While changes in terms of trade and risk premia account for much of those shifts, expectations for relative monetary policy have also played a role: expectations for rate hikes have been revised down more in Europe than elsewhere. Today’s US payrolls report further strengthened the greenback because it supports the Fed’s optimistic assessment of US growth. Next week, US CPI data and the ECB’s policy announcement may reinforce the potential for divergence in monetary policy between Europe and the US. We have revised our down GDP and policy rate forecasts for the euro-zone because we anticipate a sizeable impact from the war, while Chair Powell’s comments this week strengthens our view that the Fed will push ahead with rate hikes.