a taxing time for dollar bears - Nomura

Analysts at Nomura explained that over the past week, the dollar has rallied against all G10 currencies, most notably against the Australian dollar (+2.9%), Swedish krona (+2.8%) and New Zealand dollar (+2.7%). 

Key Quotes:

"It has also rallied against the euro (+2.2%) and yen (+1.3%). A hawkish Fed and market-unfriendly election results in Germany and New Zealand have helped the dollar. A more immediate support for the dollar is likely coming from expectations of tax cuts to be announced by President Trump later today. 

Of all dollar-supportive factors, we view tax cuts as the weakest. For one, the ultimate impact of tax cuts on US growth is likely to be modest. At best, they could boost growth by 0.1% in early 2018 (assuming they are implemented by then). More importantly, the much vaunted Reagan tax reform of 1986 did nothing to prevent the dollar continuing its multi-year downtrend. While anticipation of President George W. Bush’s first tax cut did lead to some dollar strength, it proved ephemeral and couldn’t stop the dollar from peaking soon after. His second tax cut was similarly transient.

Underlying these dynamics is the path of the US’s twin deficits (fiscal and current account). Since the early 1990s, an improvement in the twin deficits has broadly been associated with dollar strength, while deterioration in the twin deficits has broadly been associated with dollar weakness (Figure 1). Recently, the twin deficits have been worsening, which forms part of our structurally bearish view on the dollar. In this context, any tax cuts should be viewed positive or negative depending on how they impact the twin deficits. If anything, the current tax focus suggests that the budget deficit could at least initially worsen, which does not look good for the dollar."