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USDPLN: Strong growth and subdued inflation. What's next for the Polish zloty?

12:44 15 November 2018

Summary:

  • US dollar has risen sharply in recent weeks, Polish zloty has fallen to the lowest since May 2017

  • Dollar looks overvalued unlike the PLN based on the data provided by the BIS

  • Poland’s economy remains externally balanced suggesting no immediate capital outflow

  • Poland has improved its fiscal position increasing VAT collection

  • Clouded outlook for higher rates in Poland, rate hikes in the US priced in

  • USDPLN trades around its resistance, further upside seems to be limited

The Polish zloty was the world’s second best currency in the past year gaining as much as 20.2% against the US dollar (only the Czech koruna turned out to be yet stronger reaching a stunning 20.7% rate of return). However, the PLN has not performed well so far this year being 8.4% down on a year-to-date basis. In the region, the zloty has marked a worse outcome compared to the Romanian leu and the Czech koruna - both central banks have been tightening monetary policy - and has had a slightly higher rate of return than the Hungarian forint as the Hungarian central bank keeps remarkably loose monetary policy (it has recently outlined some plans to start removing monetary stimulus beginning the next year). Among reasons behind EM currencies’ underperformance are higher rates in the US. In today’s analysis we present some arguments supporting the view that the USDPLN could see a decline over the medium-term.

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The US dollar remains the most overvalued major currency in the world unlike the Polish zloty, according to the data provided by the Bank for International Settlements. Source: Macrobond, XTB Research

After reaching its trough in the first three months of the year the greenback has rebounded sharply climbing to its highest level since April 2017. There were many reasons behind this move. First and foremost, the Federal Reserve has continued tightening monetary conditions unlike other central banks in the world including the National Bank of Poland. US economic growth has been clearly above the levels registered by many developed economies in Europe predominantly due to tax cuts implemented at the end of the last year. At the same time, there have been concerns with respect to a trade battle between the US and China. This trade dispute has led to substantial depreciation of the Chinese yuan which has almost crossed 7.00 against the US dollar. The weaker China’s currency has, in part, offset tariffs introduced by the US against Chinese exports reigniting the dispute even more. Any tariffs and other trade restrictions act to the detriment of the global economy via decreasing a net exports’ contribution and indirectly could hurt even such economies having no strong links with either the US or China. More tensions have also led to more jitters across various markets increasing demand for safe haven assets such as US bonds till the end of August. During this period the USDPLN rose from below 3.30 to above 3.82 but at the same time the Poland’s bond market was remarkably calm with the 10Y yield not breaching 3.2% until the end of August.

The bond market has largely priced in risks related to a battle over a budget between Italy and the European Commission. Source: Macrobond, XTB Research

As of today the Polish 10Y yield is trading slightly above 3.24% and during recent months it has been moving within a range between 3.1% and 3.3% (with slight deviations). It is not surprising that the Polish economy has strong links with the Eurozone economy and therefore is heavily dependent on what is happening in Europe as a whole (especially in Germany). Based on initial GDP readings for the third quarter it turned out that while the German economy marked its first quarterly contraction since the first quarter of 2015, the Polish economy saw no a similar scenario. Moreover, growth in Poland accelerated well above expectations producing values of 1.7% QoQ and 5.1% YoY respectively. On top of that, we were offered an array of upward revisions for the past quarters meaning that such robust growth in the third quarter was reached despite yet more demanding base effects. In turn, looking broader one needs to take into account risks related to Brexit and Italy. In case of Brexit we are hopefully heading to a final agreement between the two sides within weeks and if so it would remove a major risk off the European political scene. Writing about Italy it appears that these risks have been already priced in. The Italian government failed to resubmit a budget draft until Tuesday when the deadline determined by the European Commission passed. However, even as Italy chose to keep its deficit targets, the bond market showed rather a moderate reaction compared to moves seen in the past. Thus, we do not think that there is more room for Italian yields to rise from the current levels and if we are right, it should also halt a risk premium (a difference between Italian and German bond yields). Under these circumstances the EURUSD is unlikely to continue falling in the medium-term (based on a relationship between the EURUSD and the bond market one may arrive at a conclusion that the former has become already undervalued) which ought to also underpin the Polish zloty.

The Polish economy remains externally well balanced implying no immediate capital outflow. Source: Macrobond, XTB Research

Among reasons why the Poland’s bond market has been resilient to external risks in recent months one needs to highlight that the Polish economy remains externally balanced despite rapid GDP growth seen over the past five quarters (five consecutive quarters with growth exceeding 5% YoY, NSA, constant prices). Looking into the current balance one may notice that both current account and trade balances hover around 0% of GDP. Poland is running a 1.5% surplus when capital account is also included. Over the past years we had a decent improvement in the international investment position from -70% of GDP to approximately -57% of GDP in the second quarters 2018. The external debt lowered from 76% of GDP to 67% over the past quarters. At the same time, inflation has been contained (including core CPI reflecting the best internal inflationary pressures being sensitive to demand) preventing the central bank from rising interest rates.

The Polish general government balance improved markedly in recent years while the country cracked down on tax evasion. Source: Macrobond, XTB Research

The strong fundamental position of Poland is also reflected by the improving general government balance despite generous social spending (it is a reason why Poland was unable to make surpluses as many countries in the European Union, and why a structural deficit remains roughly unchanged - according to the European Commission it will stay at 2% of GDP next year and then shrink to 1.8% of GDP in 2020). In 2017 a general government deficit shrank to 1.4% from 2.2% whereas public debt decreased to 50.6% from 54.2%. In recent quarters Poland has also successfully cracked down on tax evasion boosting markedly VAT collection as evidenced by the chart above. As a consequence, Poland has its twin deficit equal to zero (based on the most available GDP data for the second quarter), this is not the case in the United States. The newest data showed that the US recorded a $100.5 billion budget deficit in October, a 60% increase compared to the prior year. Although Poland is not free of some structural issues that need to be addressed in the future - an aging population, a lowered retirement age - these are not aspects which could affect the Polish economy meaningfully in the horizon of our recommendation.

The weekly time frame reveals that the USDPLN has risen substantially in recent months approaching its crucial supply area nearby 3.82. Moreover, we may also notice the broad ascending triangle formation which could limit further upside as well. The current price coincides with the 50% retracement of the decline since the end of 2016 till January 2018. Having all the above-mentioned in mind we recommend going short at the market price with take profit placed at 3.68 and 3.53 and a stop loss order at 3.95. Source: xStation5

This content has been created by XTB S.A. This service is provided by XTB S.A., with its registered office in Warsaw, at Prosta 67, 00-838 Warsaw, Poland, entered in the register of entrepreneurs of the National Court Register (Krajowy Rejestr Sądowy) conducted by District Court for the Capital City of Warsaw, XII Commercial Division of the National Court Register under KRS number 0000217580, REGON number 015803782 and Tax Identification Number (NIP) 527-24-43-955, with the fully paid up share capital in the amount of PLN 5.869.181,75. XTB S.A. conducts brokerage activities on the basis of the license granted by Polish Securities and Exchange Commission on 8th November 2005 No. DDM-M-4021-57-1/2005 and is supervised by Polish Supervision Authority.

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