Russian gas standoff turns ECB into sideshow for currency market
(Bloomberg) – The planned reopening of a key Russian gas pipeline next week could be bigger for the euro than the first interest rate hike in a decade by the European Central Bank.
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Both are scheduled for July 21. Although the ECB’s plans to start raising tariffs have been well signaled and therefore priced in by the markets, it is more doubtful that Russia will actually restore gas flows to Europe once the North Gas Pipeline maintenance is completed. Stream 1 completed.
Government ministers across the continent have spoken openly about the risk of a complete shutdown, a scenario that would see energy prices soar and likely lead to a recession. This would mean big problems for the common currency, already on the verge of parity with the dollar.
“The 21st is going to be a key day, more for the gas supply outlook than for the ECB,” said Kaspar Hense, senior portfolio manager at BlueBay Asset Management.
Russia’s gas supply has already been running at just 40% of normal levels after Moscow cut off flows earlier this year. Further disruptions could raise the prospect of rationing ahead of winter, when energy demand increases. It would also jeopardize the continuation of rate hikes by the ECB.
So far, the ECB’s plans to drive borrowing costs from levels below zero have failed to support the currency as other major central banks have moved much more quickly to tighten policy. and fight inflation. Money markets are betting it will raise rates by at least 125 basis points this year, but the Federal Reserve has already done more than that.
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This dragged the euro to its lowest level in 20 years against the dollar. The currency is now tracking natural gas price developments closely, with a growing number of market participants citing Dutch gas futures as a key driver for the euro in recent weeks.
“Worst case scenario (total stoppage of gas flows) brings recession and probably another 10% fall in the euro from here,” wrote Kit Juckes, chief currency strategist at Societe Generale SA, in a note. “Best case scenario continuation of the status quo makes markets jittery and the euro can only handle modest short cover relief.”
Although a total gas supply shutdown is not the base case for strategists at UBS Group AG, they see such a scenario leading the euro to fall towards 90 US cents. They believe it would also push yields on benchmark German 10-year debt down to 0% as the rate slipped this week on risk.
What if? Markets plan for apocalypse if Russia cuts gas
“If the gas is cut, I think the euro-dollar could be 90 (US cents) – then we’re probably priced at 60% for a severe gas shock, which I think is happening,” said Aaron Hurd, a portfolio manager at State Street Global Advisors in Boston. “People are legitimately concerned about whether or not production will resume after maintenance.”
The euro managed to rebound on Tuesday on a parity test against the dollar. But many market participants say any real gains in the currency will be limited until Europe’s gas supply outlook becomes clearer.
“I don’t interpret this as a narrative shift; bounces will potentially still be sold until Nord Stream 1 is reactivated,” Stephen Innes, managing partner at SPI Asset Management, said in a note.
(Updates with quote from SPI Asset Management.)
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