UBS On-Air: Paul Donovan Daily Audio 'War and long-term economics'
The desk posits that the current rise in oil and gas prices signals a complex interplay between commodity demand and subsequent dollar dynamics. As highlighted in Paul Donovan's commentary, the modest strength of the dollar reflects not just safe-haven flows but the necessity to convert dollars for higher-value imports, particularly energy resources, as global tensions escalate . While immediate economic threats are absent, the impact on U.S. fiscal policies and the long-term implications of ongoing military engagements remain focal points. Market consensus currently does not indicate drastic moves, allowing for analysis of current trends amidst geopolitical uncertainties.
What the desk is arguing
The desk argues that while the recent increase in oil and gas prices is noteworthy, it does not pose an immediate economic threat, as per Paul Donovan's insights from UBS. This stabilization allows markets to focus on the structural dynamics at play, reflecting a rational response to evolving geopolitical tensions.
In the near term, the dollar's strength is partly influenced by heightened demands for commodities like oil and gas, necessitating greater dollar purchases. Donovan cites that prices need to remain high for an extended period to materially affect economic fundamentals.
However, the alternative view could suggest that if these prices surge and persist, we could eventually see a shift in market sentiment that may impact risk assets more significantly in the future.
Where it sits in our coverage
Our current coverage indicates a consensus target for the USD/EUR pair around 1.075, with a range extending between 1.04 and 1.12. Firm perspectives include:
The desk’s interpretation aligns with jpmorgan but diverges slightly, being positioned at the upper end of the expected range, suggesting potential for dollar strength if energy prices remain elevated.
How other firms see it
Market sentiment appears divided, with jpmorgan and goldman viewing the dollar's strength as a temporary but rational response, endorsing a near-term bullish stance. Conversely, bofa maintains a more cautious outlook that leans bearish.
Investors should closely observe related pairs like USD/JPY and EUR/USD, which may react to shifts in commodity prices due to their indirect correlation with dollar movements. The Federal Reserve's tightening policy could also amplify these effects given its influence on dollar liquidity.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01The current rise in oil and gas prices isn't immediately threatening to the economy.
- 02The dollar's strength reflects increased demand for commodities rather than pure safe-haven flows.
- 03Long-term military costs may impact fiscal policy and economic outlook.
- 04Market participants are advised to monitor shifts in energy prices and their implications on the dollar.
Market implications
Attention should be directed to stability around the 1.075 level as a pivotal point for the USD/EUR pair. Additionally, upcoming dynamics in the oil market may influence dollar liquidity going forward, particularly in the context of geopolitical developments.
Risks to this view
A significant reversal in the bullish dollar outlook could occur if oil prices fall sharply, leading to diminished demand for dollar-denominated assets. Moreover, a clearer military strategy from the U.S. could reframe market expectations towards risk assets, impacting the dollar's role as a reserve currency.
Good morning, this is Paul Donovan, Chief Economist at UBS Global Wealth Management. It's 7 o'clock in the morning London time on Tuesday the 3rd of March. The war in the Gulf has produced generally predictable short-term responses.
Oil and following attacks on Qatar, gas prices have risen. This is not yet something that is particularly economically threatening. The dollar has strengthened modestly.
It seems difficult to characterise this as a safe haven flow, especially given the failure of treasuries to strengthen. But if oil and gas, and indeed gold, are attracting inflows and or are higher in price, more dollars must be purchased to buy those commodities. Overall markets seem to be reacting in a rational way, not looking for the war in the Gulf to detract from the underlying economic growth story.
For the long term, beyond the immediate focus of the financial markets, there are some more interesting considerations. This is less about the outcome of the war. Investors remain confused about the long-term aims of the United States, if indeed there is a coherent long-term aim.
The US administration has given conflicting signals and US President Trump's White House comments have offered no real clarity to financial markets. However, there are at least four longer-term considerations that are already emerging. The first is a reinforcement of the changing nature of war, a lesson already being learned in the Russia-Ukraine fighting.
Drones have hit the US embassy in Saudi Arabia and relatively cheap military technology combined with the amplification and sensationalism of social media is producing results in terms of popular sentiment at the very least. Second, this is going to be costly for the US over time. There will be more pressures on fiscal policy and weapons stockpiles will need to be replenished and it's becoming clear that certain military procurement may very well need to be expanded.
This may have contributed to the relatively poor performance of US government bonds. Third, this does change things in the Gulf region. Economies that were seeking to diversify away from energy now face additional hurdles.
A bad cycle of TikTok videos can undo months of conventional advertising when it comes to tourism. Expatriates, especially those moving for tax reasons, often have a herd mentality. Initially, as they move abroad, this can manifest in a desire for reassurance that they're not alone and everyone else will be following their move.
Sources & References
How we cover this story