By Teeuwe Mevissen of Rabobank

Yesterday the first in-person meeting between European and Chinese leaders in four years took place. Covid made an earlier summit like this impossible so it was about time that leaders of both blocks would meet to discuss a plethora of topics that currently define EU-Sino relations. Despite the necessity of talks and policy coordination on cross border challenges, expectations regarding the outcome of the summit were modest at best. According to a summit background document published by the European Commission, five major topics were on the agenda:

• EU-China relations including economic and trade,

• Russia’s war of aggression against Ukraine,

• the situation in the Middle East,

• climate change,

• global health and pandemic preparedness.

While the EU will raise concerns about the current imbalance in EU-China trade relations, China reiterated that they want to be a key trading partner with the EU. This unfortunately does not solve EU’s increasing trade deficit with China and patience seems to be running out. In other words, EU-China’s trade relationship might be in the balance.

It is not expected that a ground-breaking resolution will be agreed upon. But aside from the economic and financial implications of EU-China trade relations, Covid – amongst others – also made clear that being over-reliant on certain key inputs from one or just a few countries leaves one vulnerable in times of crisis. Indeed, only yesterday we published a special report addressing EU’s vulnerabilities in an ever changing and increasingly fragmented world order. The low expectations that were voiced before the summit turned out to be a justified. While it is common that after summits like this a joint press statement is provided, none was given this time. Still it remains important that the EU and China continue to engage via top levels of government if only to cooperate on issues were both share common interests like climate change.  

This morning saw a slew of data coming from Japan. This followed a major shift in market expectations regarding future monetary policy of the Bank of Japan (BoJ). BoJ President Kazuo Ueda addressed members of parliament yesterday with the message that his job will become more challenging next year indicating possible changes in its monetary policy stance i.e. a departure from Japan’s negative policy rate. Soon after his deputy Ryozo rushed in to calm down markets with the message that no significant adverse impact is to be expected from a rate hike. Needless to say that this actually seems to confirm market expectations that the era of negative rates in Japan might soon be over. But looking at the most recent data that came out this morning, the BoJ’s mission to normalize monetary policy could be in jeopardy already. This morning it became clear that in the third quarter Japan’s economy shrunk with an annualized 2.9%, more than expected in the first estimate. Private consumption declined 0.2% compared to the previous quarter so not exactly the window of opportunity that the BoJ was looking for, perhaps.

All of this resulted in considerable strengthening of the yen against the dollar. At one point yesterday the yen gained 4% against the dollar and bearish bets on the yen were quickly abandoned. Thin liquidity added to the large swings that were observed yesterday. However a former executive director of the BoJ - Hideo Hayakawa - warned that markets have overreacted on yesterday’s comments from Kazuo Ueda. According to Hideo Hayakawa “This is probably a temporary market phenomenon,”. He added that “Ueda is looking for evidence. There is no need to rush now after intentionally choosing to be behind in coming this far.” While we already expected an appreciation of the yen vis a vis the dollar, yesterday’s pace already breached our 6 month forecast of 148 and at the moment of writing USDJPY is still at a level of just below 144, as our currency watcher Jane Foley notes. Therefore we also think that USDJPY is oversold at this moment but we do continue to expect a level of 142 in 12 months from now.