- Tactically, USD can continue to benefit from haven bid. Cyclically, we remain neutral USD. Structurally, we are still bearish USD.
- A busy week for central banks as they face a difficult inflation-growth trade off.
- RBA and BCB are expected to adjust policy rates. All other central banks poised to keep rates on hold.
Financial markets remained driven last week by war-related headlines, with the safety of shipping through the crucial Strait of Hormuz the primary barometer for risk sentiment. Brent crude oil prices rallied back above $100 a barrel while the dollar powered forward against all major currencies, pushing the DXY to its highest level in nearly ten months. The rebound in crude oil prices further weighed on global bond and stock markets due to heightened stagflation risks and fiscal concerns.
In parallel, the Trump administration ran into another institutional guardrail after the Supreme Court’s tariff ruling, with a federal judge on Friday blocking subpoenas directed at the Federal Reserve. The Justice Department confirmed it will appeal the decision prompting Republican Senator Thom Tillis to warn that the move will only delay the confirmation of Kevin Warsh as the next Fed Chair.
Regardless, the biggest constraint on the Trump administration is not the courts, Congress, opinion polls, or even the US equity market – it’s the Treasury market. Rising long-term Treasury yields ultimately determine how far political and military ambitions can go because they determine how expensive it is for the government to finance its policies.
With 10-year Treasury yields up near 4.3% and US nominal GDP growth averaging 5.3% y/y the past ten years, the math still works (growth exceeds the cost of borrowing). But the buffer is thin given the projected increase in the US budget deficit (from 5.8% of GDP in 2026 to 6.7% in 2036) and the stagflation risk from a sustained energy price shock.
Dollar View Update
Tactically, USD can continue to benefit from haven bid driven by dollar funding needs until we reach peak fear regarding shipping through the Strait of Hormuz. Demand for short-term USD funding tends to spike during periods of stress due to the dollar’s dominant role in the global financial system (trade invoicing, cross border lending, global bond issuance, FX reserves). When stress hits, foreign market participants scramble for dollar to secure liquidity to roll over debt and meet liquidity needs.
We don’t pretend to be military strategists, but the heavy naval presence in the Gulf region under the umbrella of the US Fifth Fleet suggests we are closer to peak fear than to another leg higher in shipping security concerns. Operation Earnest Will and Operation Praying Mantis in the latter stages of the 1984-1988 Tanker War are useful reminders of how shipping risk through the Strait can be managed.
Cyclically, we remain neutral USD and expect DXY to resume trading within a 96.00-100.00 range. DXY has overshot the level implied by rate differentials between the US and other major economies. Structurally, we maintain our long-held bearish USD view because of fading confidence in US trade and security policy, worsening US fiscal credibility, and the ongoing politicization of the Fed.
Central Bank Blitz
This week’s calendar is jam-packed with central bank policy rate decisions. Only the RBA and BCB are expected to adjust policy rates, with all other central banks poised to stand pat. Most central banks rate expectations have swung sharply since the start of Operation Epic Fury on February 28, reflecting the inflation shock from surging energy prices (chart in email version of this note).
Central banks now face a familiar dilemma: look through the energy-driven inflation shock or lean against it and risk derailing the modest economic recovery currently underway. Much will depend on whether the negative supply shock from higher energy prices proves large or persistent enough to push inflation higher. For the ECB and BOE, the room to “look through” and avoid tightening in the face of a soft growth backdrop is limited. Eurozone and UK long-term inflation expectations have already risen sharply in past few days.
Tuesday
Reserve Bank of Australia (RBA) is expected to deliver a back-to-back 25bps cash rate target hike to 4.10%, but it’s a close call. Cash rate futures imply 53% odds of a hike. Our base case is for the RBA to raise rates, which will offer AUD some support. Australia headline inflation is running high at 3.8% y/y even before the energy shock hits, and all the RBA’s internal models show a positive output gap consistent with tighter capacity constraints.
Wednesday
Bank of Canada (BOC) is widely expected to keep the target for the overnight rate at 2.25% for a third straight meeting. The BOC will likely reiterate that “the current policy rate remains appropriate…However, uncertainty is heightened and we are monitoring risks closely. If the outlook changes, we are prepared to respond.”
Fed is widely expected to keep the target range for the funds rate at 3.50%-3.75% for a second straight meeting. Like in January, governors Stephen Miran and Christopher Waller will likely dissent in favor of a 25bps cut. Meanwhile, the FOMC median rate forecast should still imply one cut for both 2026 and 2027, no change in 2028 and a longer-term rate of 3.0%.
Banco Central do Bazil (BCB) is set to begin easing after keeping the Selic rate at 15.00% since the final 25bps hike in June 2025. Markets are evenly split between a 25bps or 50bps cut this week. We lean towards a cautious 25bps cut to 14.75% given upside risk to inflation from rising energy prices.
Bank Indonesia (BI) is widely expected to leave the policy rate at 4.75% for a sixth consecutive meeting to maintain the stability of the rupiah.
Thursday
Bank of Japan (BOJ) is widely expected to keep the overnight call rate at 0.75% for a second straight meeting.
European Central Bank (ECB) is widely expected to keep the deposit facility rate at 2.00% for a third straight meeting. The March macroeconomic projections will show how the Governing Council interprets the energy shock.
Bank of England (BOE) is widely expected to keep the bank rate at 3.75% for a second straight meeting. We anticipate a more hawkish MPC vote split than February’s 5-4 hold, signaling greater caution about easing amid the energy-driven inflation shock.
Riksbank is widely expected to keep the policy rate at 1.75% for a fourth consecutive meeting. The March Monetary Policy Report will include an updated policy rate path. In December, the Riksbank penciled in the policy rate on hold at 1.75% until Q4 2026, followed by a 25bps hike over the subsequent two years.
Swiss National Bank (SNB) is widely expected to keep the policy rate at 0.00% for a third consecutive meeting. The SNB will also reaffirm its willingness to intervene in the foreign exchange market to curb a rapid and excessive appreciation of the Swiss franc.
Czech Central Bank (CNB) is widely expected to keep the two-week repo rate at 3.50% for a seventh consecutive meeting. Board member Jan Kubicek pointed out last week that he’s “satisfied with the rates where they are” adding that low Czech inflation gives a “relatively large buffer” to absorb the oil shock.
Taiwan’s central bank (CBC) is widely expected to keep the discount rate at 2.00% for an eighth consecutive meeting.
