Crashing political sentiment in France and another activity data beat in the US have handed the euro a dire start to December, with the dollar gaining over 1% on the day so far.
OAT-Bund spreads have surged to a fresh 12-year peak of 88bps after Barnier’s government forced through a budget without a parliamentary vote.
As expected, the interim government now faces a vote of no confidence that it is likely to lose, and with a new election not allowed until the summer, there is no clear path to reducing the deficit in the near term.
That makes both the two biggest eurozone economies in political limbo and unable to address the structural issues holding back growth – the last thing the euro needs as it faces the prospect of a Trump presidency this year.
The market has priced in an extra 20bps in ECB rate cuts in 2025 over the past three session, presumably amid concern about an extra hit to sentiment and some extra uncertainty that keeps the growth picture subdued in the euro area.
There is a consensus now that rates are going to be taken below the ECB’s estimates of neutral by the second quarter. I think there is some further downside for the euro in the near term as the French political drama plays out, but the implied ECB cutting path is beginning to look a little stretched.
Meanwhile, the contraction in US manufacturing activity decelerated in November, according to the ISM survey, driven by improvements in employment and some growth in new orders. The index rose from 46.5 to 48.4, beating the consensus forecast of 47.6. While still tracking below the 50.0 mark, this is a boost to the growth outlook that will at the margin improve the case for the Fed to stay steady this month.”
