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Forecast Fundamental Economic Trends To Keep CEEMEA Currencies on Divergent Paths

Deviations in Central and Eastern European, Middle Eastern and African (CEEMEA) foreign exchange trends will remain a feature of global currency markets for the foreseeable future.  CEEMEA foreign exchange rate patterns will take their cue from imminent domestic economic and political events, commodity price tendencies, official policymaking decisions and random event risks in 2015 and 2016.

Turkish, Israeli, Polish, Russian, Hungarian and South African Real Effective, Trade-Weighted Currency Index Trends

The Israeli shekel (ILS) – as gauged by its standardized, risk-adjusted real effective, trade-weighted exchange rates (REERs) – places twelfth strongest worldwide, whereas the remaining CEEMEA currencies grade much frailer than the ISL.  The Turkish lira (TRL) rates second firmest among CEEMEA currencies.  The Polish zloty (PLN), South African rand (ZAR) and Hungarian forint (HUF) trail the TRL in descending order.  Setting apart the Russian ruble (RUB) from its CEEMEA and global rivals is its distinction of ranking weakest on an inflation-adjusted, trade-weighted basis.

Even though the RUB has stabilized and even regained ground against the US dollar (USD) in the aftermath of its steep fifty-one percent depreciation in the seven months from end-June 2014 to end-January 2015, the Russian unit is still highly vulnerable to downside volatility.  A remarkably versatile, yet unorthodox, monetary policy, in having reduced the official lending rate by 250 basis points since end-January to 14 percent currently, has counterintuitively arrested the precipitous slide in the RUB and tentatively restored a modicum of investor confidence in the resilience of the currency.  Mirroring the improved mood in the financial markets, the Moscow stock exchange is now fifth strongest in year-to-date performance globally and its sovereign debt is rewarding investors with a ten percent double-digit return with the returns of both shares and bonds measured in USD.

Polish, Russian, Hungarian, Israeli, Turkish and South African Five-Year Sovereign Credit Default Swap Trends

Nevertheless, renewed stability in the RUB, the policy regime of which is both a de facto and de jure managed floating exchange rate for purposes of smoothing the currency’s day-to-day fluctuations, has been a reflection of a hesitant bottoming of and stabilization in petroleum prices over the past two months.  A worldwide glut in the supply of relative to the demand for oil is depressing the energy commodity’s cost and, consequently, dampening growth in foreign exchange reserves – from which no immediate relief for crude producers (like Russia) is anticipated until re-equilibrating market forces establish a solid floor underneath petroleum prices.

In spite of the success of the Bank of Russia’s credit policy in checking the decline in the value of the RUB, the state’s subversive foreign policy and the nation’s deteriorating economic climate will eventually undermine the RUB anew on both its euro (EUR) and USD crosses.  Moscow may be breathing a sigh of relief for now from the recovery in its equity and debt markets, but – as long as President Putin and his administration aims to destabilize neighboring countries through either the outright instigation of insurrection (as in Ukraine) or the deliberate violations of air space (as in the Baltics), the imposition of additional international financial sanctions would worsen the internal economic crisis in Russia on top of deteriorating revenue streams from oil and other commodities.

While Russia should get some modest reprieve this year on the international trade front from the plunge in the RUB, Global Markets Intelligence (GMI) does not expect the present respite in Russia’s financial markets to endure much longer as downward pressure ultimately emerges anew to the detriment of the ruble amid a forecast real GDP fall of four percent and hyperinflation of 15 percent induced by the RUB’s collapse.

In the absence of any unforeseen outbreak of hostilities along the Israeli border, the ILS should continue to benefit from comparatively firm, noninflationary economic growth in excess of three percent due to impressive financial policymaking achievements by the outgoing ruling alliance.  The March 17th general elections saw the Israeli electorate award the incumbent Likud party under the leadership of Premier Benjamin Netanyahu with an additional twelve seats in the Knesset (Israel’s parliament) – elevating the profile of the center-right party to thirty seats, equivalent to a quarter of the legislature, and abetting the formation of a governing coalition that is expected to result in the weeks ahead from ongoing negotiations.

Polish, Russian, Hungarian, Turkish, Israeli and South African Purchasing Manager Index Trends

Undoubtedly, Netanyahu will need to accommodate the interests of smaller right-wing parties that will probably ally with Likud to fashion a majority.  However, we do not anticipate any changes in the trajectory of national fiscal and monetary policies any time in the first two to three years of the new regime’s term of office.  A likely stable polity during the next few years would accord the incoming government the requisite latitude to proceed, albeit gradually, with the advancement of reforms and deregulation in an effort to further liberalize the domestic economy.

Sustained non-inflationary economic growth of greater than three percent, together with a widening current account surplus as a proportion of real GDP exceeding three percent and a narrowing budget shortfall on the same basis below the -3 percent level through 2016, should reinforce investor confidence in Israeli stocks, and sovereign debt as well as other investment opportunities there, all of which should promote currency stability and perhaps a modest firming of the shekel next year.

Chronic depreciation of the TRL in relation to the USD appears unlikely to give way to a steadier trend in the Turkish unit in the immediate future.  Policy disputes are surfacing between President Recep Tayyip Erdogan and Prime Minister Ahmet Davutoglu, who is resisting the former’s demands for an expansion of his executive powers to the detriment of legislative authority.  The discord between Erdogan and his hand-picked successor, Premier Davutoglu, has taken on an air of strident acrimony of late, jeopardizing their long-standing friendship and political alliance.  Regardless of the differences between the two leaders, an overhaul of the constitution is only achievable if the Turkish electorate confers on the incumbent AKP a three-fifths majority of parliamentary seats in national elections scheduled for this June.  Until then, intensifying uncertainty among investors about the direction of economic policymaking will weigh adversely on the Turkish unit despite the fact that Ankara still boasts solid public finances and a well-capitalized and regulated financial sector.

Even so, Turkish economic activity should remain relatively volatile before and after the June nationwide ballot.  Having surrendered almost ten percentage points in momentum during the last four years, domestic demand – principally, private consumption and gross fixed capital formation – is expected to regain some of its footing through 2017 at a moderately slower pace of inflation.  Yet, with a huge external financing requirement, Turkey will stay highly dependent on variable portfolio capital inflows subject to financial market jitters notwithstanding the mitigating effects on the weaker pattern in the cost of imported oil denominated in USD.  Worse still, a hike in interest rates by the Federal Reserve would probably entail faster TRL/USD depreciation by disrupting, if not throttling into reverse, the country’s auspicious trend in capital flows.

Israeli, Turkish, South African, Russian, Hungarian and Polish Real Economic Growth Trends

Meanwhile, the PLN – having ceded substantial ground (twenty percent) versus the USD since June 2014 and strengthened 4.4 percent against the EUR in the past three months – may fluctuate narrowly this year before it appreciates modestly in 2016.  Uncertainty prevails on the political front prior to parliamentary elections slated for later this year.  The center-right coalition government of the center-right Civic Platform (PO) and rural-based Polish Peasants’ party (PSL) retains a slender majority in the national legislature (Sejm) and should encounter a strong challenge from its opponents in the coming political campaign.

With PLN stability already threatened by Russian subversion in Ukraine and a possible Greek exit from the euro bloc, heightened risk of the alliance in power led by Prime Minister Ewa Kopacz losing to a fragmented opposition could spell trouble ahead for the liberal policymaking atmosphere in Warsaw mirrored by a 3.6 percent year-to-date decline in equity valuations measured by the Warsaw stock exchange in USD terms.

Meanwhile, the PLN – having ceded substantial ground (twenty percent) versus the USD since June 2014 and strengthened 4.4 percent against the EUR in the past three months – may fluctuate narrowly this year before it appreciates modestly in 2016.  Uncertainty prevails on the political front prior to parliamentary elections slated for later this year.  The center-right coalition government of the center-right Civic Platform (PO) and rural-based Polish Peasants’ party (PSL) retains a slender majority in the national legislature (Sejm) and should encounter a strong challenge from its opponents in the coming political campaign.

With PLN stability already threatened by Russian subversion in Ukraine and a possible Greek exit from the euro bloc, heightened risk of the alliance in power led by Prime Minister Ewa Kopacz losing to a fragmented opposition could spell trouble ahead for the liberal policymaking atmosphere in Warsaw mirrored by a 3.6 percent year-to-date decline in equity valuations measured by the Warsaw stock exchange in USD terms.

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