The Global FX Monthly Analyst - October 2013

8/9/2019 The Global FX Monthly Analyst - October 2013

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October 10, 2013

The Global FX Monthly Analyst

Economics Research

Near-term Risks to our Bullish $/JPY View

The Yen has traded in a wide range since the initial move higher in

$/JPY that ended in April.

One of the primary reasons for this appears to be the less proactive

policy stance from the Abe administration.

The difference between monetary policy in the US and Japan has also

narrowed: the Fed has pushed out tapering and the BoJ will probably

not ease further before next April.

Without much in terms of near-term catalysts for a weaker Yen, the risk

is that range-trading in $/JPY will persist. Consequently, we have revised our 3- and 6-month $/JPY forecasts to

98 and 103.

Higher inflation than in the past and an eventual increase in rate

differentials still suggest that $/JPY will rise in the long run. Our 2016

forecast remains at 125.

After a strong rally in $/JPY earlier in the year, the catalysts for further

near-term Yen weakness have become rarer. The reform momentum of

Abenomics has slowed. Recent communications by PM Abe highlight that

structural reforms are more difficult to implement. The confirmed hike in

the sales tax will tighten fiscal policy again. In addition, earlier expectationsof further proactive BoJ easing have been disappointed. Japanese equity

markets have been moving sideways for some time. Meanwhile, the Fed

has become more dovish again, in particular in the context of tighter

financial conditions and the fiscal uncertainty in the US. The risks for a

temporary $/JPY correction have clearly increased, and it looks as if the

period of range-trading in $/JPY can persist. This is reflected in our new 3-

and 6-month forecasts of 98 and 103.

Over longer horizons, we continue to believe that rising interest rate

differentials and higher inflation in Japan warrant a bullish view on $/JPY.

Our 2016 forecast remains at 125.

Thomas Stolper+44(20)7774-5183 [email protected] Sachs International

Robin Brooks(212) 902-8763 [email protected], Sachs & Co.

Fiona Lake+852-2978-6088 [email protected] Sachs (Asia) L.L.C.

Investors should consider this report as only a single factor in making their investment decision. For Reg AC certificationand other important disclosures, see the Disclosure Appendix, or go to www.gs.com/research/hedge.html.

The Goldman Sachs Group, Inc. Global Investment Research


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October 10, 2013 The Global FX Monthly Analyst

Goldman Sachs Global Investment Research 2

ContentsNear-term Risks to our Bullish $/JPY View 3G3 8US Dollar 8Euro 10Japanese Yen 12Europe, Middle East & Africa 14British Pound 14Czech Koruna 15Hungarian Forint 16Israeli Shekel 17Norwegian Kroner 18Polish Zloty 19Russian Ruble 20South African Rand 21Swedish Krona 22Swiss Franc 23Turkish Lira 24Ukrainian Hryvnia 25Americas 26

Argentine Peso 26Brazilian Real 27Canadian Dollar 28Chilean Peso 29Colombian Peso 30Mexican Peso 31Peruvian New Sol 32Venezuelan Bolivar 33Asia 34Australian Dollar 34Chinese Yuan 35Hong Kong Dollar 36Indian Rupee 37Indonesian Rupiah 38

Korean Won 39Malaysian Ringgit 40New Zealand Dollar 41Philippine Peso 42Singapore Dollar 43Taiwan Dollar 44Thai Baht 45Interest Rate Forecasts 46Recommended FX Trade Ideas 47FX Currents 48GS Trade-Weighted Indices 50M&A Flows 52GSDEER 54Key Economic Data 56

GDP Growth (%ch yoy) 56Consumer Prices (%ch yoy) 57Current Account Balance (% of GDP) 58Broad Balance of Payments (% of GDP) 59Foreign Exchange Reserves (US$bn) 60Government Debt as % of GDP 61Policy Rate Forecasts 62Exchange Rate Forecasts 63Euro Crosses 63Dollar Crosses 64Disclosure Appendix 65


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Near-term Risks to our Bullish $/JPY View

After a strong rally in $/JPY earlier in the year, the catalysts for further Yen weakness have

become rarer. The reform momentum of Abenomics has slowed and the Fed has become

more dovish again, in particular in the context of tighter financial conditions and ongoing

fiscal uncertainty in the US. The rally in Japanese equity markets has also stalled, at leastfor now. The risks for a temporary $/JPY correction have clearly increased, and it looks as if

the period of range-trading in $/JPY can persist. This is reflected in our new 3- and 6-month

forecasts of 98 and 103. Over longer horizons, we continue to believe that rising interest

rate differentials and higher inflation in Japan warrant a bullish view on $/JPY. Our 2016

forecast remains at 125.

1. Revision of our JPY forecasts

After a period of substantial weakness starting last autumn, the Yen has stabilised in an

increasingly narrow trading range. The key catalysts for the next leg higher in $/JPY remain

unchanged but, realistically, we think the timing should be pushed further into the future.

We also see a number of increasingly important shorter-term risks to our underlyingbearish JPY view. This suggests that the period of range-trading can extend before the next

move higher in $/JPY. More specifically, we think $/JPY will remain in a range close to

current levels at 98 over the next 3 months, before gradually drifting higher towards 107 in

12 months. Towards the end of our forecasting horizon in 2016, we continue to expect

$/JPY to reach 125.

2. Clear Yen-Negative Factors

The two principal negative factors exerting downside pressure on the Yen are changing

inflation expectations and interest rate differentials.

Rate Differentialshave been the most important driver of the Japanese Yen over the last10 years or so. Lower interest rates in Japan than elsewhere would likely lead to a

sustained downward move in the Yen. There are several reasons for this dynamic, but

ultimately they can all be considered a variation on the carry theme. When rates rise

overseas, Japanese investors are attracted by higher carry in foreign currency deposits. But

similarly, it becomes more expensive for Japanese investors with existing overseas assets

to hedge these.

Hedging dynamics are particularly important for the JPY because of the large net foreign

asset position of Japanese investors. Japans net foreign asset position stands at $3.0trn,

of which $2.5trn are overseas portfolio investments in bonds and notes.

It is unclear just how much of this exposure is FX-hedged, but most fixed income investors

globally have a preference to hedge their currency risk, simply to reduce the currency-

induced volatility. But the cost of FX hedging is an important consideration. When short-

dated rate differentials widen and overseas yield curves flatten, the cost of carry on the FX

hedge becomes increasingly similar to the coupon payments on the underlying fixed

income asset. As a result, the incentive to lift at least part of FX hedges on fixed income

portfolios becomes larger. The same dynamic could be observed from 2004/2005 when the

Fed last entered a hiking cycle and we believe this will be the case again. We expect the

Fed to hike rates from 2016 onwards.


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Exhibit 1:Interest rate differentials remain key for theJPY

Exhibit 2:Inflation surveys hint at rising inflationexpectations since the start of Abenomics

Source: Goldman Sachs Global Investment Research Source: Haver Analytics, Goldman Sachs Global Investment Research

New Inflation Target One of the Three Arrows of Abenomics is to beat deflation and

lift consumer prices by about 2% annually. Exceptionally easy BoJ policy aims at achieving

this. So far the success has been mixed. Wage growth remains stubbornly low although

surveys suggest that inflation expectations are on the move (see Exhibit 2). This is partly

related to the rise in fuel prices, which itself is the result of a weaker Yen. Overall, inflation

dynamics seem to be moving in the direction of the higher inflation target.

The importance for FX needs to be seen in the context of Purchasing Power Parity or other

fair value models. One of the reasons why the JPY has been on an appreciating trajectory

for decades is simply thanks to the steady gain in competitiveness owing to lower inflation

rates. As Dominic Wilson discussed in detail in February (see Global Economics Weekly

13/05), a rise in long-term inflation expectations is consistent with markets pricing a weaker

fair value for the Yen as well. Combined with expectations for persistent negative real

rates, this is consistent with a weaker JPY even today. The more proactive the BoJ is in

achieving this inflation target, the more likely it is the market will price this changed

trajectory for a weaker Yen fair value. There is certainly scope for markets to price higher

inflation rates, which would translate into further JPY weakness.

3. Additional Yen-Negative Factors (or maybe not?)

In addition to the two forces mentioned above, market participants have tried to construct

the case for more Yen-negative factors. Quite a number of these may not be quite as

negative as suggested, so we are cautious about using these arguments.

Current Account Deficit Apart from brief exceptions, Japan is currently still running acurrent account surplus. After a decline in recent quarters, it has now stabilised at about

1% of GDP on a four-quarter trend basis. Japan does have a trade deficit these days but,

given its extremely strong net foreign asset position, investment income more than offsets

the trade deficit.

Unsustainable Debt Levels Japans government debt levels are very high. But it is

important to recognise that Japan as a country is a large net creditor to the rest of the

world. Foreign holdings of Japanese General Government Debt account for only 8.4% of

the total. A simple default of externally held debt is an extremely unlikely scenario in this

context, in particular because Japan has so many overseas assets. This also makes it

difficult to link Yen weakness to a rising risk premium on government debt. Still, the Yen

75

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85

90

95

100

105

110

115

120

125

0.0

0.5

1.0

1.5

2.0

2.5

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04 05 06 07 08 09 10 11 12 13

bpslevel

USD swap 5y - JPYswap 5y (RHS)

USDJPY0

10

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30

40

50

60

04 05 06 07 08 09 10 11 12 13

% of allHouseholds

1y expectation of price appreciation in 2%-5% area

1y expectation of price appreciation in 0% area


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could weaken indirectly as a result of the debt situation to the extent that higher inflation

rates are a way to deal with the nominal government debt stock, which brings us back to

the inflation dynamics discussed above.

Correlations with Equities Over the past year or so the correlation between Japanese

stocks and $/JPY has been exceptionally high. A constructive view on the basis of

continued reforms in Japan under Prime Minister Abe could therefore be seen as a JPY-

negative and equity-positive factor. Looking at this in more detail, there is a clearly a risk

that the correlation could change again and become weaker. For most of 2012, for example,

it had been much closer to null than currently. From a historical perspective, correlations in

daily returns have been fairly high since the early tremors of the Global Financial Crisis

(GFC) in 2007. However, much of this has been due to high cross-asset correlations. The

correlation between the SPX and the JPY was just as high (Exhibit 3). What has changed

since the end of last year is that Yen correlations with the Nikkei have strengthened even as

most other cyclical asset correlations with the Yen have weakened. This kind of disconnect

is rare and we have to go back to the mid-1990s to see a similar divergence. It is possible

that the changing correlations are indicative of a structural change in Japan linked to

Abenomics. When judged purely by history, it is just as likely that the correlations will

weaken again and that the Yen-Nikkei will start move in a more independent way. In any

case, it will be interesting to watch this.

4. Reasons to be Cautious about the Short-Term Outlook

Timing of US Rate Hikes Given the importance of interest rate differentials for the JPY,

the first rate hike by the Fed will be a key event. Exhibit 4 shows the basic $/JPY patterns in

relation to the Fed Funds rate. In the last three hiking cycles, starting in 1994, 1999 and 2004,

$/JPY troughed well after the hikes had begun typically many months later. If this pattern

persists, and if our Fed forecasts for early 2016 are correct, then it may take until late 2016

before $/JPY finally starts to react to interest rate differentials. But it seems difficult to link Fed

tapering to a weaker Yen if at the same time the Fed strengthens forward guidance. The

fact that tapering has been delayed relative to earlier market expectations emphasises even

further just how high the threshold is for genuine Fed tightening. The Fed signalled atightening of financial conditions linked to a sharp bond sell-off and fiscal uncertainty as

reasons for delaying the tapering decision. Indeed, we may have to wait for a number of

quarters before nominal interest rate differentials at shorter duration and related carry

dynamics become a key driver of further JPY depreciation.

Exhibit 3:Nikkei-Yen correlation in daily returns isexceptionally high currently

Exhibit 4:$/JPY typically turns higher after the Fed hikesstart

Source: Goldman Sachs Global Investment Research Source: Goldman Sachs Global Investment Research

-0.4

-0.3

-0.2

-0.1

0.0

0.1

0.2

0.3

0.4

0.5

0.6

90 92 94 96 98 00 02 04 06 08 10 12 14

level 1y correlation of Nikkei 225 with USDJPY

1y correlation of SP500 with USDJPY

70

80

90

100

110

120

130

140

150

160

0

1

2

3

4

5

6

7

8

9

90 92 94 96 98 00 02 04 06 08 10 12 14

level%

US Fed fund target rate

USDJPY (RHS)


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Speculative Positioning We have mentioned this factor several times in the past as a

risk that could at some point lead to a move lower in $/JPY. Speculative positioning

remains extremely stretched according to the IMM data. As a percentage of open interest,

the non-commercial long $/JPY position is now comparable to the extremes seen during

the peak carry trading activity before the GFC (see Exhibit 5). At the same time, a large

speculative position alone is not a guarantee for a sharp unwinding; it merely increases the

probability of such a move. It is also quite normal to see sizable and persistent speculativepositions during periods of fundamental change. The FX market could therefore remain

positioned long $/JPY until rate differentials ultimately become the key driver.

Exhibit 5:Speculative positioning in $/JPY stretched to a similar extent to during the pre-GFC carry period

Source: Haver Analytics, Goldman Sachs Global Investment Research

Abes Arrows lose Momentum The initial phase of Abenomics was dominated by

proactive monetary and fiscal easing. After the first two arrows were fired, the third arrow

structural reforms has been less impactful. For example, earlier this month PM Abe

highlighted that structural reforms in the labour market were more difficult than initially

hoped for. Loss of momentum can be observed for the two other arrows too. After very

proactive easing in April, additional measures by the BoJ are now unlikely before Spring

2014. On the fiscal side, the government decided to go ahead with the long planned rise in

the sales tax at the beginning of the next fiscal year. Offsetting measures will be

announced in December but it is already clear that these will not be able and are not

designed to fully offset the negative growth impact from the tax hike. Overall, themomentum of Abenomics has slowed and most investors have become much less focused

on the changes in Japan. With positioning in FX markets still stretched, this increases the

risks of a temporary setback. At the same time, a more reactive BoJ will likely respond to a

period of renewed Yen strength and step up monetary easing. This would reduce the

downside risks to $/JPY.

US Fiscal Risks A very short-term risk that is worth mentioning is the fiscal uncertainty in

the US. If the negotiations continue to fail, growth-reducing fiscal policy disruptions are

ultimately possible. This would affect many risky assets, including equity markets. With

correlations relatively high, as discussed above, such a scenario could easily translate into

a period of JPY strength. Moreover, the Fed highlighted at the last FOMC meeting that

-60

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0

20

40

60

02 03 04 05 06 07 08 09 10 11 12 13

% of open interest

Net speculative position in USDJPY futures


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fiscal policy is one of the risks that has led to a delayed tapering of asset purchases. A

protracted fiscal dispute would further increase the likelihood of continued monetary

accommodation.

5. The Path Ahead for $/JPY

If we combine our continued views on the long-term outlook for $/JPY with the near-term

risk factors, it looks quite likely that $/JPY will go through a period of range-trading before

it can rally further. Just when this additional rally will materialise is unclear at the moment

and will depend not only on the actual timing of US rate hikes but also on market

expectations of these. Additional policy stimulus in Japan could also be the trigger. None

of these factors is likely to materialise before the end of the year, which is why we changed

our 3-month forecasts to 98 from 105 previously. In addition to the flattish near-term

forecast, we highlight tactical risks to the downside, which we already expressed in a trade

recommendation to be short $/JPY.

Looking further ahead, we expect additional monetary policy easing and some further

structural reforms around the beginning of the next fiscal year. This suggests that $/JPY

could start to drift higher in the first quarter next year. This would also correspond to theexpected start of Fed Tapering. On a 6-month horizon we expect $/JPY to trade at 103,

drifting further up towards 107 on a 12-month basis. This view is largely contingent on a

continued strong relationship between $/JPY and Japanese equities, as well as our

constructive forecasts for Japanese equities. Rate differentials will likely be the drivers of

further appreciation to 115 by the end of 2015 and 125 by the end of 2016. We have not

changed these long-term forecasts.

The risks to our views are clear from the underlying rationale. The key risks are probably

the following: an earlier policy tightening in the US than we currently project would be the

primary reason to expect a faster $/JPY appreciation. On the other hand, a sluggish

performance of Japanese equities would likely put downside pressure on $/JPY.

6. Other Forecast Changes

The last few months of depreciation in EM currencies have led to a number of forecast

revisions on the 3-12 month horizon. In some cases the longer-dated forecasts for 2015 and

2016 had not been fully adjusted. This has now been done and the last two tables in this

publication reflect our views on the long-term outlook for the currencies we cover.

With regards to our 3-, 6- and 12-month views, the only notable changes this month are

revisions for the KRW and the BRL, which both reflect recent price action. In Brazil in

particular, the Central Bank's policy to stabilise the exchange rate has had a positive impact

on the Real so far.

Exhibit 6:New FX Forecasts

*Forecast changes released since our last FX Monthly was published

Source: Goldman Sachs Global Investment Research

Current

09/10/2013 3m 6m 12m 3m 6m 12m

$/JPY 97.24 98.00 103.00 107.00 105.00 105.00 110.00

$/BRL 2.21 2.25 2.30 2.40 2.35 2.35 2.45

$/KRW* 1076 1080 1100 1100 1110 1100 1100

$/CNY 6.12 6.16 6.15 6.15 6.16 6.16 6.16

New Forecasts Old Forecasts


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G3

US Dollar

FX Forecasts:We maintain our EUR/$ forecasts at 1.38, 1.40 and 1.40 in 3, 6 and 12 months but we have revised our

$/ forecasts to 98, 103 and 107 in 3, 6 and 12 months. Current GSDEER for EUR/$: 1.19; $/: 104.4.

Motivation for Our FX View: The large structural deficits in the US balance of payments and government budget

combined with a declining Euro area risk premium should contribute to a weaker Dollar against the Euro. Monetary

policy is likely to remain accommodative, as illustrated by the decision to delay the tapering of asset purchases. We now

expect tapering to start at the December FOMC meeting. This may provide support to the Dollar through higher bond

yields, particularly against EM currencies. That said, in our view, the acceleration in US and global activity through the

end of 2013 (our forecast) is likely USD-negative, linked to falling risk aversion and US capital outflow.

Monetary Policy and FX Framework: The Fed has a dual growth and inflation target. As a result, monetary policy has

generally been more volatile and reactive than in pure inflation-targeting countries. The exchange rate floats freely. The

US Treasury is in charge of FX policy, although the Fed occasionally also comments on currency issues.

Growth/Inflation Outlook: 2Q2013 real GDP growth surprised slightly to the upside at 2.5%qoq ann. Our Current

Activity Indicator picked up to 3.0% in August, but we expect moderate growth in 2013 at 1.6%, partly linked to fiscal

drag. The latter could increase if discussions about the government shutdown and debt ceiling extend. We see

considerable spare capacity in the economy, underpinning our view of a deceleration in core inflation to 1.8% in 2013.

Monetary Policy Forecast: We now expect the Fed to announce a tapering of open-ended asset purchases at the

December FOMC meeting. The Fed has also committed to keeping the Federal Funds rate between 0 and 0.25%, while

unemployment remains above 6.5%. In addition to the unemployment rate, the Fed will monitor other indicators with the

aim of tightening only when the labour market displays broad-based signs of improvement. Inflation one to two years

ahead is projected to be below 2.5%. We expect the first rate hike in 1Q2016.

Fiscal Policy Outlook: Fiscal policy is currently a significant drag on growth but this is expected to diminish towards

the end of the year. The deficit has fallen sharply in recent months and is expected to decline over the next few years.

The longer-run fiscal outlook remains problematic and entitlement reforms are needed to ensure sustainability.

Balance of Payments Situation: The US BBoP deficit widened on a trend basis by 0.4% of GDP to -4.0 % in 2Q2013.

The current account deficit improved slightly on a trend basis to 2.5% of GDP in 2Q2013. During 1H2013, the US has

witnessed record portfolio outflows, mainly targeting Europe.

Things to Watch: We continue to monitor capital flow trends in the monthly TIC data for signs of any persistent

improvement in the BBoP.

Thomas Stolper

USD TWI US: BBoP vs. Current Account

Source: Goldman Sachs Global Investment Research. Source: Haver Analytics, Goldman Sachs Global Investment Research

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120

96 98 00 02 04 06 08 10 12 14 16

Index1980=100

Nominal TWI

GSDEER TWI

TWIAppreciation

-8

-6

-4

-2

0

2

95 96 97 98 99 000102030405060708091011121314

% of GDP4qtr avg

Current Account

BBoP


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US Industrial Production and Real GDP US Inflation

Source: Goldman Sachs Global Investment Research. Source: Goldman Sachs Global Investment Research.

US Trade Volumes US Terms of Trade

Source: Haver Analytics Source: Haver Analytics

GS Commodity Indices FED rate vs. 10yr yield and S&P500


-15

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-5

0

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90 92 94 96 98 00 02 04 06 08 10 12 14

%yoy

Industrial Production

Real GDP

F'cast

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-1

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5

6

92 94 96 98 00 02 04 06 08 10 12 14

%yoy

G10 Inflation

US CPI

F'cast

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-8

-4

0

4

8

12

16

20

24

95969798990001020304050607080910111213

% yoy3-mth ma

Exports

Imports

86

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90

92

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102

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106

108

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112

89 91 93 95 97 99 01 03 05 07 09 11 13

Index1990=100

TOTImprovement

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00 01 02 03 04 05 06 07 08 09 10 11 12 13

IndexIndex

S&P GSCI Energy IndexS&P GSCI Industrial Metal IndexS&P GSCI Agriculture IndexS&P GSCI Index (rhs)

700

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2

3

4

5

6

7

99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

Index% UST 10y yieldFED funds rate

SPX (rhs)


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Euro

FX Forecasts:We maintain our EUR/$ forecasts at 1.38, 1.40 and 1.40 in 3, 6 and 12 months. This implies EUR/ at 135.2,

144.2 and 149.8 in 3, 6 and 12 months. GSDEER for EUR/$: 1.19.

Motivation for Our FX View: Our positive stance on the EUR is due to the strong current account and BBoP trend for

the Euro area. In contrast to the weaker balance for the US, this structural imbalance implies a gradually weaker USD and

a stronger EUR. Downside risk remains in the Euro area, with growth remaining weak and the ECB signalling that itexpects to keep rates low, with a downward bias, for an extended period. Meanwhile, the Fed is also expected to keep

rates on hold until 2016. Notable cyclical improvements in the Euro area make it likely that risk premia will continue to

decline. Many investors have substantially reduced EUR exposure during the crisis and capital flow data suggest

declining risk premia have led to renewed inflow. EM central banks have started to raise slightly their holdings of EUR.

Monetary Policy and FX Framework: The ECB is a strict inflation targeter and has recently made more explicit its

inflation-based forward guidance. As a Central Bank serving 17 countries, the ECB is arguably the most independent

Central Bank in the world. The Euro is a freely-floating currency. FX policy responsibility is not clearly defined, but in

practice the ECB is unlikely to act in FX markets without Eurogroup approval.

Growth/Inflation Outlook:GDP in 2Q2013 moved back into positive territory at +0.3%qoq annualised. We expect a

modest sequential improvement from here and forecast 0.9% growth in 2014. We expect inflation to remain stable at

1.5% in 2013 and 2014. Recent activity indicators have been more encouraging, including a broad improvement in PMIsin the past few months, with key peripheral countries on the verge of positive growth.

Monetary Policy Forecast:The Governing Council left the main refinancing rate and the deposit rate unchanged at

0.50% and 0.0% in October. Previously the ECB also introduced forward guidance, in particular that key ECB interest rates

would remain at present or lower levels for an extended period of time. We expect the ECB to keep rates on hold until

2015, although excessive EUR strength or weaker activity data would increase the likelihood of a rate cut in the

meantime. We expect another LTRO in December, mainly to alleviate funding stress for some peripheral banks.

Fiscal Policy Outlook: The Euro area has tightened fiscal policy more and earlier than most other regions and

countries. 2012 was the peak of fiscal tightening. By 2014 fiscal policy is projected to turn neutral for growth. The Euro

area already runs cyclically adjusted primary surpluses, although some individual countries have not yet reached that

stage.

Balance of Payments Situation: The Euro area runs an increasingly sizeable current account surplus, leading to apositive BBoP. Capital inflows into the Euro area have picked up in recent months as macro data have started to improve.

Things to Watch: Developments in the European sovereign situation, in particular implementation of fiscal reforms and

long-term fiscal and political reforms. Near-term risks include Italian politics and the next Troika review for Greece.

Thomas Stolper

EUR/$ Euro area: BBoP vs Current Account

Source: Goldman Sachs Global Investment Research Source: Haver Analytics

0.50

0.70

0.90

1.10

1.30

1.50

1.70

81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

3%

4%

5%

98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP12-mmas

CA

BBoP


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Euro area Industrial Production and real GDP Euro area Inflation


Euro area Trade Volumes Euro area Terms of Trade

Source: Haver Analytics Source: Haver Analytics

EUR/$ vs 2yr Rate Differential EUR/USD: 3-mth Risk Reversals


-20

-15

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-5

0

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90 92 94 96 98 00 02 04 06 08 10 12 14

%yoy

Industrial Production

Real GDP

F'cast

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-2

-1

0

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92 94 96 98 00 02 04 06 08 10 12 14

%yoy

G10 Inflation

Euro area CPI

F'cast

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% yoy3-mth ma

Import

Export

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89 91 93 95 97 99 01 03 05 07 09 11 13

Index2000=100

TOTImprovement

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06 07 08 09 10 11 12 13

EUR/$%

2-yr Germany Swap Minus 2-yr US Swap

EUR/$ (rhs)

-5.0

-4.0

-3.0

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-1.0

0.0

1.0

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08 09 10 11 12 13

Vol


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Japanese Yen

FX Forecasts:We have changed our view. We expect USD/JPY to trade at 98, 103 and 107 in 3, 6 and 12 months from

105, 105 and 110 previously. This implies EUR/ at 135.2, 144.2 and 149.8 in 3, 6 and 12 months. The current $/ GSDEER

is 104.4 and EUR/ is 124.0.

Motivation for Our FX View:$/JPY has been essentially range-bound since early April after expectations of aggressive

easing from the BoJ, which were subsequently delivered, pushed the cross above 100. The range-bound price action hasoccurred despite the ongoing widening of interest rate differentials between the US and Japan, which suggests the cross

could trade higher than it has done. Instead, moves in $/JPY are more closely aligned with developments in Japanese

equities. In the near term, it is difficult to see a catalyst that would push $/JPY higher: the Fed has delayed the start of

tapering (which we now expect to occur in December), the BoJ refrained from easing in October and details of PM Abes

Third Arrow are still in short supply. Indeed, he appears to be moving away from notable labour market reform. Our

longer-dated forecast remains 125 at end-2016. At that point, we expect the Fed to have started raising the Fed Funds rate

but we think the BoJ will likely still be in easing mode.

Monetary Policy and FX Framework:After adopting a 2% inflation target earlier this year, the BoJ has changed its

main operating target for monetary market operations for a monetary base control, from the uncollateralised overnight

call rate. Open market operations will be conducted such that the monetary base will increase at an annual pace of

60trn-70trn. The Yen is formally a freely floating currency, but the MoF is in charge of FX policy and has often

intervened in the past.

Growth/Inflation Outlook:Mr Abe announced that the consumption tax will be raised to 8% from 5% in April 2014 and

accompanied this announcement with the outline of an economic package designed to ease the potential drag from the

hike. Based on the package, we have nudged up our real GDP growth forecast to 1.0% for FY2014, from 0.6%.

Monetary Policy Forecast: To meet its objectives, the BoJ will purchase 7trn-worth of JGBs per month up to a

maturity of 40 years. This will lengthen the average time to maturity from just under three years to around seven years.

The pace of increase in ETF and REIT holdings will be stepped up by 1trn and around 30bn, respectively. ETF holdings

will likely increase to 2.5trn at end-2013 and 3.5trn at end-2014. We do not expect the BoJ to take further steps for the

time being.

Fiscal Policy Outlook:Japan has introduced a supplementary budget of over 10trn for FY2012.

Balance of Payments Situation:Japan now runs a BBoP surplus on account of an ongoing current account surplusand more recently very strong repatriation of foreign bonds. Unlike in other countries, bond outflows in recent years

have typically coincided with Yen strength.

Things to Watch: Any increased focus on Japans fiscal and debt levels, particularly if question-marks over

unsustainability start to emerge more forcefully.

Fiona Lake

$/ Japan: BBoP vs Current Account

Source: Goldman Sachs Global Investment Research Source: Haver Analytics, GS Global Investment Research

50

100

150

200

250

300

81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-10%

-8%

-6%

-4%

-2%

0%2%

4%

6%

8%

96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP12-mma

CA

BBoP


13/65



Japan Industrial Production and real GDP Japan Inflation


Japan Trade Volumes Japan Terms of Trade


$/JPY vs 2yr Rate Differential USD/JPY: 3-mth Risk Reversals


-40

-30

-20

-10

0

10

20

30

-15

-10

-5

0

5

10

15

90 92 94 96 98 00 02 04 06 08 10 12 14

%yoy

Real GDP

Industrial Production (rhs)

F'cast

-3

-2

-1

0

1

2

3

4

5

92 94 96 98 00 02 04 06 08 10 12 14

%yoy

G10 Inflation

Japan CPI

F'cast

-50

-40

-30

-20

-10

0

10

20

30

40

50

79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13

% yoy3-mth ma

Exports

Imports

75

85

95

105

115

125

135

145

155

165

175

185

79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13

Index2010=100

TOTImprovement

75

80

85

90

95

100

105

110

115

120

125

-2

-1

0

1

2

3

4

5

6

7

8

05 06 07 08 09 10 11 12 13

$/JPY%

2-yr US Swap Minus 2-yrJapan Swap

JPY/$ (rhs)

-12

-10

-8

-6

-4

-2

0

2

4

08 09 10 11 12 13

Vol


14/65



Europe, Middle East & Africa

British Pound

FX Forecasts: We maintain our EUR/GBP forecasts at 0.82, 0.83 and 0.85 in 3, 6 and 12 months. This implies GBP/$ at

1.68, 1.69 and 1.65 in 3, 6 and 12 months. Current GSDEER for EUR/GBP is 0.81 and for GBP/$ is 1.47.

Motivation for Our FX View: The UK has experienced a substantial improvement in activity indicators in recent

months. Part of this may be related to a recovering Euro area economy and part linked to the acceleration in credit

growth. The composite PMI stands at close to the highest level since the mid-1990s. This economic strength will likely

support capital inflows, which would offset some of the external vulnerability linked to the relatively large current

account deficit. As a result, we expect Sterling to strengthen against most currencies in the near term, although the

external deficit will ultimately limit Sterlings ability to rally persistently against the Euro.

Monetary Policy and FX Framework:The Bank of England is tasked with price stability, defined as CPI at 2% over

time. If inflation falls below 1% or rises above 3%, the BoE must write a letter of explanation to the Chancellor of the

Exchequer. The Central Bank introduced forward guidance with a 7% unemployment threshold and an inflation

knockout. Sterling operates under an entirely free float, although the BoE occasionally comments on exchange rate

developments.

Growth/Inflation Outlook:GDP data for 2Q2013 increased 0.7%qoq, slightly exceeding expectations. We expect the

economy to grow by 1.4% in 2013. We expect spare capacity in the UK economy to pull inflation lower in the longer term,

averaging 2.6%yoy in 2013 before falling to 2.4% in 2014 and 2.0% in 2015.

Monetary Policy Forecast: Although the recently introduced threshold guidance was immediately followed by a series

of positive economic data surprises, we do not think the BoE will reconsider its accommodative policy any time soon. We

expect stable QE holdings and rates to be on hold until at least the end of 2015.

Fiscal Policy Outlook:The government still plans to reduce the deficit gradually, albeit at a slower pace than initially

projected. The deficit is expected to reach 1.6% in 2017-18. Most of the adjustment will occur via spending cuts, with tax

changes minor in comparison.

Balance of Payments Situation: We forecast a current account balance of -3.1% of GDP in 2013, currently tracking at

-4.3%, compared with the 3.8% deficit in 2012. Portfolio flows remain difficult to assess given the large gross cross-border

flows linked to London as a financial centre.

Things to Watch:The impact of the cyclical acceleration on capital inflows remains a key factor. If strong credit demand

leads to further widening of the current account deficit, this could become a problem further in the future.

Thomas Stolper

EUR/ UK: BBoP vs. Current Account


0.30

0.40

0.50

0.60

0.70

0.80

0.90

1.00

80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16

Spot

GSDEER-20%

-15%

-10%

-5%

0%

5%

10%

15%

98 01 04 07 10 13

% GDP4-qtr ma

CA

BBoP


15/65



Czech Koruna

FX Forecasts:We keep our EUR/CZK forecast at 25.85 in 3 and 6 months, and 25.5 in 12 months, respectively. This

implies a USD/CZK forecast of 18.7, 18.5 and 18.2. Current GSDEER for EUR/CZK is 23.5, equivalent to an 8.2%

undervaluation. USD/CZK GSDEER is 19.7.

Motivation for Our FX View:We expect the CNB Board to maintain its dovish and pro-intervention stance to reduce

deflation risks given the very benign inflation outlook, subdued domestic demand, and slow and limited pass-through ofrate cuts. That said, we think that, for now, the Board will continue to focus on verbal interventions and only a strong re-

emergence of appreciation pressures could persuade the CNB to enter the market directly. This approach may lead to

questions about the credibility of the intervention threat and the risk of a market test of the CNBs resolve. Signs of

recovery should reduce the need for lasting Koruna weakness, while the Czech Republics strong balance sheet, low stock

of external debt and limited reliance on foreign funding should support the Koruna over the longer term.

Monetary Policy and FX Framework:The CZK is a freely-floating currency and the CNBs inflation target is 2%. But

the very benign inflation outlook and lack of space to cut rates further have led the CNB to reaffirm its readiness to

weaken the Koruna, should more monetary easing be needed.

Growth/Inflation Outlook:Growth improved more than expected in 2Q2013 thanks to stronger exports and a more

supportive fiscal position. The economy should gain more strength in 2H2013, but weak domestic sentiment will weigh

on the recovery. We expect inflation to stay below or close to the target in 2H2013-2014.

Monetary Policy Forecast:The CNB cut the policy rate to a record low 0.05% in November 2012 and narrowed the

interest rate corridor to push market rates lower. The CNB will likely stick to verbal FX interventions for now, although

renewed appreciation pressures may lead it to start selling the Koruna in the FX market.

Fiscal Policy Outlook: The previous government revised the 2013 fiscal outlook towards an even lower deficit and

funding needs. For 2014, the fiscal stance is likely to be loosened somewhat, although the change in government has

made the outlook more uncertain.

Balance of Payments Situation:The Czech Republic maintains a trade surplus but the income account remains in

deficit owing to the high share of profits from FDI. Any resulting current account deficit should be easily financed with

sustained FDI and portfolio inflows. Correcting for FDIs, the Czech Republic has a positive Net International Investment

Position.

Things to Watch:General elections take place in late October. Polls suggest the Social Democrats are likely to be the

largest party in the new parliament although it is not yet clear whom they would choose as a coalition partner, if

necessary. If in government, the Social Democrats plan to return to more progressive taxation, impose special taxes on

regulated sectors, including banks, and abandon the creation of the mandatory pension funds.

Magdalena Polan

EUR/CZK Czech Republic: BBoP vs. Current Account


10

15

20

25

30

35

40

45

95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-10%

-8%

-6%

-4%

-2%

0%2%

4%

6%

8%

10%

97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


16/65



Hungarian Forint

FX Forecasts:We maintain our EUR/HUF forecast unchanged at 300, 305 and 310 in 3, 6 and 12 months, respectively.

This implies USD/HUF at 217, 218 and 221 in 3, 6 and 12 months. The current GSDEER for EUR/HUF is 297, which implies

a small 1.5% overvaluation against the Euro. USD/HUF GSDEER is 250.

Motivation for Our FX View:The Forint remains sensitive to demand for EM assets and the outlook for global rates.

However, the MPCs more cautious tone, still-positive real rates, a current account surplus and a more dovish Fed haverecently helped anchor the Forint. Still, the ongoing discussions on an FX debt exchange and, especially, the pre-election

news could lead to more short-term weakness and volatility. In the longer term, the structural drivers of the currency

remain unchanged and the Forint will likely continue to suffer from FX deleveraging and lower potential economic

growth. The rate differential, which has narrowed further on the back of more cuts this year and higher US rates, could

also start to erode demand for Hungarian assets. Moreover, while Forint weakness appears to be one of the policy

objectives for the future, the government and the NBH will be unwilling to allow the Forint to depreciate yet, before

further reducing households and the governments FX sensitivity and in any case not before the next elections in early

2014. That said, the NBHs tolerance for FX depreciation has increased already.

Monetary Policy and FX Framework:The NBH has a formal, medium-term (18 months-2 years) inflation target of 3%

but also adjusts rates to respond to growth and financial stability risks. The MPC normally holds rate-setting meetings

every fourth Tuesday of the month.

Growth/Inflation Outlook:Annual growth turned positive in 2Q2013 thanks to re-stocking, recovering investments and

public spending. Inflation is well below the target and should stay low in 2014 as well, thanks to additional cuts in utility

prices and lower oil prices. The effect of earlier tax hikes should limit the fall in core inflation.

Monetary Policy Forecast:The NBH has cut rates by 340bp since August 2012 and more easing will likely follow, as

long as market conditions allow. It also plans to ease financial conditions through other means, such as the funding for

lending plan, recently expanded and extended till end-2014.

Fiscal Policy Outlook:The Fidesz government has been pursuing ambitious fiscal goals to reduce debt. The deficit was

cut to 1.9% of GDP last year and should stay just below 3% in 2013-2014. But sustainable debt reduction will take time

given low growth. There is some risk of a deficit target overrun given the forthcoming elections.

Balance of Payments Situation:The current account should remain in surplus in 2013, while the financial account will

remain under pressure from sustained FX debt repayments.

Things to Watch: The government has started its election campaign. This increases the risk of more populist policies,

including more government spending, as well as a tougher stance in negotiations with commercial banks on currency

conversion of the FX debts. Political news flow may increase Forint volatility in the run-up to April 2014 elections.

Magdalena Polan

EUR/HUF Hungary: BBoP vs. Current Account


80

110

140

170

200

230

260

290

320

95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-15%

-10%

-5%

0%

5%

10%

15%

20%

9697989900010203040506 07 08 0910111213

% GDP4-qtr ma

CA

BBoP


17/65



Israeli Shekel

FX Forecasts:We maintain our $/ILS forecast at 3.60, 3.55 and 3.45 in 3, 6 and 12 months. These forecasts imply /ILS at

4.97, 4.97 and 4.83 in 3, 6 and 12 months. The $/ILS GSDEER is 3.99 and /ILS GSDEER is 4.74.

Motivation for Our FX View:We continue to hold a long-term (structural) constructive view on the Shekel on the back of

a strong growth outlook and an improving current account. The Q2 current account print came in at US$1.8bn (2.5% of

GDP), roughly unchanged from Q1 (US$1.9bn), and gas production should reduce energy imports further in 2H2013.Appreciation pressures are therefore unlikely to disappear. The September surprise cut may provide some temporary relief

but the BoI is running out of ammunition to weaken the currency. FX interventions have also remained relatively moderate

due to the fiscal costs associated with a large stock of FX reserves. Furthermore, we think the BoI will become less sensitive

to appreciation pressures in 2014 as the global recovery becomes better entrenched and exports pick up.

Monetary Policy and FX Framework:The Bank of Israel enjoys operational independence and targets inflation of 1%-

3%yoy. From October 2011 onwards, the Monetary Committee has set the policy rate (previously set by the governor), with

a view to keeping inflation within the target band.

Growth/Inflation Outlook: Headline inflation fell to 1.3%yoy in August but remains within the BoIs 1%-3% inflation

target. As a result, the booming housing market is the main constraint on monetary policy at this juncture. On the growth

front, there has been a significant pick-up in domestic demand. GDP growth accelerated to 4.9%qoq ann. in 2013Q2, from

2.7% in Q1, and the unemployment rate fell to 6.1% in August, an historical low. We continue to forecast 3.6% growth in2013, up from 3.2% in 2012.

Monetary Policy Forecast:The BoI had room to ease going into late 2011 as a result of the improved domestic inflation

outlook (thanks to relatively benign food inflation and cuts in regulated prices) and previous policy tightening. Focusing on

slowing global growth and rising uncertainty, the Bank has cut rates by 225bp since September 2011 (from 3.25% to 1.00%)

However, we now think that the easing cycle has ended and forecast rates on hold until end-2013 due to the constraint

imposed by the booming housing market and the strong improvement in the labour market and domestic demand.

Fiscal Policy Outlook: The budget deficit widened to around 5% of GDP in 2009, mainly as a result of the economic

slowdown. Despite improving fiscal dynamics up to mid-2011, the deficit has widened over recent quarters and the deficit

for 2012 is around 4.5%. We expect the governments new 2013-14 budget to change this trajectory.

Balance of Payments Situation:The current account surplus narrowed to around 0.3% of GDP in 2012, from 1.3% in

2011 and 3.1% in 2010. However, we expect this trend to reverse in 2013 as global growth picks up and as natural gasproduction reduces energy imports.

Things to Watch:Ongoing political developments in the Middle East, as well as the global growth backdrop, should be

monitored closely.

Kasper Lund-JensenKasper Lund-Jensen

$/ILS Israel: BBoP vs. Current Account


3.0

3.2

3.4

3.6

3.8

4.04.2

4.4

4.6

4.8

5.0

97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-10%

-8%

-6%

-4%

-2%

0%2%

4%

6%

8%

10%

969798990001020304050607080910111213

% GDP4-qtr ma

CA

BBoP


18/65



Norwegian Kroner

FX Forecasts:We maintain our EUR/NOK forecast at 7.70, 7.50 and 7.30 in 3, 6 and 12 months. This equates to 5.58, 5.36

and 5.21 for the USD/NOK rate. The NOK looks undervalued vs the Euro at current levels, according to our GSDEER

valuation of 5.62, reflecting Norway's terms-of-trade gains. However, because Norway keeps the bulk of its oil revenues

offshore, the Kroner is unlikely to erode this undervaluation substantially.

Motivation for Our FX View:Despite dovish statements from the Norges Bank, we continue to expect the NOK tostrengthen against the EUR in the medium term. With growth remaining resilient and a strong external balance, the NOK

is fundamentally supported. In the medium to long term, with a closed output gap, strong credit growth and rising house

prices, the Norges Bank is likely to have to tolerate more currency strength and hike rates relative to an on hold ECB.

Rising inflation pressures in recent months increase the likelihood of tighter monetary policy. Consequently, we expect

EUR/NOK to reach the recent lows again.

Growth/Inflation Outlook: Norwegian (mainland) GDP was robust during most of 2012, but with some easing of

momentum towards the end of 2012. Norwegian activity improved in early 2013, but has struggled to improve further.

Manufacturing output and the PMI have been relatively robust recently, while Norges Banks Regional Network survey

has been weaker. Our Norwegian CAI averaged around 2.5% (annualised) in Q2 but has recently dipped below 2%.

Inflation has been subdued in Norway for some time, with CPI-ATE range-bound at around 1%-1.5% over the past year.

CPI-ATE inflation rose sharply in both July and August (by a combined 1.1pp), but retracted about half of this increase in

September. CPI-ATE inflation now stands at 1.7%.

Monetary Policy Forecast: Norges Banks March and June update to its policy rate path was on the dovish side,

pushing out the commencement of hikes from mid-2013 to the autumn 2014. Owing to the sharp recent rise in inflation,

Norges Bank revised the near-term policy rate path flat (suggesting near-term balanced risk) and Norges Bank now

expects hikes by the summer of 2014. We maintain our view of no near-term cuts and continue to expect Norges Bank to

commence hiking in May 2014.

Fiscal Policy Outlook:Discretionary fiscal policy is likely to be somewhat expansionary in 2013. The current ongoing

discussion to establish a centre-right coalition following the recent election makes the fiscal policy outlook more

uncertain than usual.

Balance of Payments Situation: As the world's fifth-largest oil exporter, Norway enjoys a healthy current account

surplus, standing at 12.8%; nonetheless, the BBoP turned negative in 2013 after having been in positive territory for three

years.

Things to Watch:The NOK TWI has fallen after reaching record highs near the start of 2013. NOK TWI will be important

to watch given the Norges Banks sensitivity to excessive currency strength.

Thomas Stolper and Lasse Holboell W. Nielsen

EUR/NOK Norway: BBoP vs. Current Account

Source: Goldman Sachs Global Investment Research. Source: Haver Analytics, Goldman Sachs Global Investment Research

4

5

6

7

8

9

10

80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16

Spot

GSDEER-15%

-10%

-5%

0%

5%

10%

15%

20%

95969798990001020304050607080910111213

% GDP4-qtr ma

CA

BBoP


19/65



Polish Zloty

FX Forecasts:We maintain our EUR/PLN forecasts at 4.25 in 3 and 6 months, and 4.20 in 12 months, respectively. Given

our USD/EUR forecast, this implies USD/PLN at 3.08, 3.04 and 3.00. Current GSDEER for EUR/PLN is 3.62, indicating a

12.5% undervaluation against the Euro. USD/PLN GSDEER is 3.05.

Motivation for Our FX View: We expect the Zloty to remain sensitive to the global rates outlook. But the recent

improvement in the current account, a stronger growth outlook and more dovish ECB and the Fed should support theZloty. That said, expectations of an eventual end to monetary stimulus in the US, lower demand for EM assets, gradual

FX deleveraging and a recovery in domestic demand which would reverse the recent CA improvement will limit the

Zlotys appreciation potential. In the longer term, we see scope for more appreciation as the fundamental factors,

especially stronger growth, support the Zloty.

Monetary Policy and FX Framework:The PLN is a freely-floating currency. However, the NBP would intervene in the

FX market if the Zloty were to move rapidly in either direction owing to external factors, although it should tolerate

gradual moves. The capital market is fully liberalised and the NBP maintains an inflation target of +2.5% (+/- 1%).

Growth/Inflation Outlook:Growth recovered in 2Q2013 and the economy expanded by 0.4%qoq. We expect growth to

pick up further in 2H2013, extending into 2014, on stronger external and, later, domestic demand. Inflation should stay

below or close to the target until end-2014.

Monetary Policy Forecast: We expect the MPC to stay on hold for the rest of 2013 and well into 2014. But the

improving growth prospects and a faster than previously expected return to target inflation may prompt some early calls

for rate hikes in 2014.

Balance of Payments Situation: The current account moved into surplus in 2Q2013 as weaker domestic demand

reduced imports and exports benefited from stronger DM growth. This improvement should persist in 2H2013, providing

some support for the Zloty. International reserves are high and tail-risks are limited by the two-year SDR22bn Flexible

Credit Line from the IMF, renewed in January 2013. Foreign investors returned to the debt market in the summer, but

continued repayments of foreign loans, including by banks, will reduce net capital inflows.

Fiscal Situation:The 2013 budget was revised to reflect revenue shortfalls and allow a larger deficit; the first debt warning

threshold was suspended to avoid pro-cyclical cuts and an additional hit to growth. The government plans to take over debt

holdings of privately run pension funds to reduce public debt and support revenues, and to avoid hitting the second debt

threshold and legally-mandated fiscal cuts ahead of the next elections in 2015.

Things to Watch:Plans to take over pension fund assets may weigh on the local markets and PLN volatility. But the

impact would be the largest for the equity market, especially if the pension funds are forced to sell some of their equity

holdings.

Magdalena Polan

EUR/PLN Poland: BBoP vs. Current Account


1.60

2.10

2.60

3.10

3.60

4.10

4.60

5.10

95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-8%

-6%

-4%

-2%

0%

2%

4%

6%

98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


20/65



Russian Ruble

FX Forecasts:We maintain our 3- and 6-month forecast for the Ruble basket at 37, and our 12-month view at 38. This

implies USD/RUB at 31.6, 31.4 and 32.2. The GSDEER value for USD/RUB is 39.0 and for EUR/RUB is 46.4.

Motivation for Our FX View:We expect the Ruble to strengthen modestly in the next 3 months both due to seasonal

factors (a stronger current account in the winter months) and because we expect domestic demand growth to improve

somewhat, implying that the large outflows of capital should become more measured. Oil prices should remain close tocurrent levels in the short run. In the medium term, however, we expect a declining interest rate premium, slightly lower

oil prices and a still sizable inflation premium to lead to some depreciation in the currency. That said, with growth (on our

forecasts) likely to pick up into next year, the depreciation should be somewhat measured.

Monetary Policy and FX Framework: The framework has shifted towards a flexible exchange rate (free float

beginning in 2015) and focus on inflation (5%-6% in 2013 and 5%+/-1.5% in 2014). The CBR's intervention band against

the US$0.55 + EUR0.45 basket is now at RUB32.3-RUB39.3; although policy has been to widen the band over time, no

near-term widening is expected. However, the position of the corridor shifts by 5 Kopecks whenever targeted

interventions accumulate to US$400mn and this threshold may decrease. The CBR caps money market rates with its 6.5%

FX swap rate, limiting spikes above the 5.5% main policy rate. Recently, the CBR introduced another term lending facility

against non-marketable collateral; the liquidity injection from the upcoming October 14 auction could be Ruble-negative.

Growth/Inflation Outlook: Growth indicators as far as investment and exports are concerned have been weak.However, with the global cycle becoming stronger, we expect the Russian economy to accelerate somewhat. Inflation

peaked in 1H2013, but fell to 6.1% in September due to food prices and is expected to decline to 5.8% by year-end.

Monetary Policy Forecast: Headline inflation is declining, credit expansion is coming down and the economy has

slowed significantly. However, the CBR rightly points out that the output gap remains pretty closed, inflation expectations

have not declined recently, the labour market remains tight and inflation has so far been above target. Hence, it has not

lowered rates. We think rate decisions will be more data-dependent from here. Our view is that the global cycle will lead to

an acceleration in Russia and there will be no output gap; we therefore expect rates to remain on hold.

Fiscal Policy Outlook:The non-oil deficit has been reduced by 1pp of GDP. We expect the pace of fiscal tightening to

slow and fiscal policy to become more growth-supportive.

Balance of Payments Situation: Based on our Commodity Strategists' positive view on oil prices, we expect the

current account to accumulate a surplus of 2% of GDP in 2013, down from 4.1% in 2012. However, the trade balance ingoods and services should remain close to 6% of GDP and not much changed from last year.

Things to Watch:We expect the Ruble to react positively to any pick-up in activity. Core inflation as measured by the

CBR should not decline, supporting our rate forecast.

Clemens Grafe and Andrew Matheny

$/RUB Russia: BBoP vs. Current Account


0

5

10

15

2025

30

35

40

95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-5%

0%

5%

10%

15%

20%

95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


21/65



South African Rand

FX Forecasts:We maintain our 3-, 6- and 12-month forecasts for $/ZAR at 10.20, 10.40 and 10.60. This implies /ZAR at 14.1,

14.6 and 14.8. The current $/ZAR GSDEER is 7.22 and /ZAR GSDEER is 8.58.

Motivation for Our FX View:Sovereign ratings downgrades, a broad-based sell-off in EM assets and industrial action

have seen the ZAR underperform over most of 2H2012 and 1H2013. Given the high current account and the high beta

nature of South Africa, the ZAR sell-off has been particularly rapid and pronounced, even against EM peers. A furtherdeterioration in financial inflows (and ZAR depreciation) remains a key risk, particularly until the current account deficit

narrows further. Despite the relatively low level of external leverage, the limited impact of significant previous ZAR

depreciation (around 26% in real trade-weighted terms since January 2011 and 12% YTD) on the external rebalancing

increases the risk of dislocation in financial flows. Over a medium- to long-term horizon, we continue to expect gradual ZAR

depreciation, in line with inflation and productivity differentials.

Monetary Policy and FX Framework:The South African Reserve Bank is operationally independent and sets its policy

rate to keep CPI inflation within the official 3%-6%yoy target and, secondarily, to support growth and promote financial

stability. The key policy rate is the 2-week repo rate.

Growth/Inflation Outlook: Softening consumption and low consumer and business confidence depressed domestic

demand and overall growth in 1H2013. We continue to expect a sequential recovery over 2H2013, but overall growth is likely

to remain weak until global growth picks up more visibly (in 2014, according to our global forecasts). Despite the negativeoutput gap, which helps to limit core inflation pressures, a weaker ZAR will pass through to both import and core prices.

Hence, we expect headline inflation to remain in breach of the SARBs (6%) upper target boundary for a few months before

retracing towards the turn of the year.

Monetary Policy Forecast:Although the SARB remains concerned about growth, we see little room for further cuts

(given the inflation outlook) and expect rates to remain on hold, at 5.0%, through to mid-2015.

Fiscal Policy Outlook:Fiscal policy remains accommodative, but the 2013 Budget reiterated a commitment to ongoing

consolidation, taking the deficit to c.3.0% over the four-year policy horizon.

Balance of Payments Situation:The current account deficit widened rapidly over 2012, owing to a combination of

weaker external demand, domestic supply disruptions and a deteriorating terms of trade. There has been some

sequential rebalancing of the current account deficit since late 2012, on the back of ZAR depreciation and softening

domestic absorption. But, ultimately, we expect net exports to remain in sizeable deficit until the real effective exchangerate depreciation improves external competitiveness and tame imports. An expected gradual pick-up in global growth

from 2H2013 (in line with our global growth forecasts) will also be helpful. Recent price falls in key commodity exports

pose a risk that CA rebalancing takes longer than we initially expected.

Things to Watch:Global monetary policy, portfolio inflows and domestic political / labour market developments.

JF Ruhashyankiko

$/ZAR South Africa: BBoP vs. Current Account


0

2

4

6

8

10

12

80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14

Spot

GSDEER

-10%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


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Swedish Krona

FX Forecasts:We maintain our EUR/SEK forecast at 8.40, 8.30 and 8.30 in 3, 6 and 12 months. This implies USD/SEK at

6.09, 5.93 and 5.93. Current GSDEER for EUR/SEK is 7.95.

Motivation for Our FX View:The SEK has traded in a reasonably wide range in recent months, between 8.5 and 8.9

since June. Despite this volatility, we continue to see the SEK strengthening from here as activity improves and inflation

troughs. The dynamics behind SEK strength remain in place: recent data suggest an improving outlook, Swedens

current account remains robust and, contingent on a gradual improvement in domestic and global conditions, the

Riksbank would likely accommodate EUR/SEK moving lower.

Monetary Policy and FX Framework:A flexible inflation targeter, responding to output fluctuations over and above

what they imply for future inflation. The Riksbank's objective is to keep inflation at around 2%. A flexible FX regime.

Growth/Inflation Outlook:Since around November last year, the business surveys have improved robustly; recently,

the September PMI rose sharply by close to 4pt and is now at 56; equivalent to growth of around 0.6qoq/0.7%qoq (non-

annl.). The KI/NIER survey has also been robust and currently points to growth of around 0.4%qoq (non-annl.) and our

CAI now points to 2% growth (annl.). Q1 and Q2 GDP printed well below growth implied by the business surveys. During

2013, domestic demand has appeared robust, but external developments have posed headwinds to growth. As external

factors improve, we continue to expect acceleration in Swedish GDP. CPIF inflation in Sweden has hovered around asubdued level of 1% over the past year. We expect inflation to rise slowly from its current subdued level and move

towards 2% during the second half of 2015.

Monetary Policy Outlook:The Riksbank cut the policy rate from 2% in December 2011 to 1% during the course o f

2012, but has been on hold so far in 2013, including at the recent September meeting. The Riksbank adopted a more

dovish repo rate path at its April meeting, pushing out its planned hikes to the second half of 2014. The recent September

meeting saw a small increase in the repo rate path, suggesting that near-term risks are declining, but are still skewed to

the downside. There was no change to the expected start of the hiking cycle. We continue to expect hikes from mid-2014.

Fiscal Policy Outlook: The fiscal position remains very healthy. The governments 2014 budget is somewhat

expansionary and we pencil in a fiscal easing of around 0.5% of GDP next year.

Balance of Payments Situation:On a trend basis, Sweden's current account surplus remains relatively robust at 5.9%

of GDP. The BBoP surplus stands at 5.8% of GDP on a trend basis. Other things equal, the BBoP surplus is positive for the

SEK.

Things to Watch:Given that Sweden is a high beta economy to global growth, the momentum of our proprietary GLI

is important to watch with regards to the performance of the external sector.

Thomas Stolper and Lasse Holboell W. Nielsen

EUR/SEK Sweden: BBoP vs. Current Account


4

5

6

7

8

9

10

11

12

80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16

Spot

GSDEER

-10%

-5%

0%

5%

10%

15%

20%

25%

90 92 94 96 98 00 02 04 06 08 10 12 14

% GDP4-qtr ma CA

BBoP


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Swiss Franc

FX Forecasts: We maintain our forecasts for EUR/CHF at 1.25, 1.28 and 1.28 in 3, 6 and 12 months. This equates to

USD/CHF at 0.91, 0.91 and 0.91. EUR/CHF GSDEER is 1.36 and USD/CHF GSDEER is 1.14.

Motivation for Our FX View: As Euro area tensions declined in 2Q2013, the flows that maintained the intense

appreciation pressure on the 1.20 SNB floor have moderated. The very low, and on some occasions even negative,

nominal return on cash in Switzerland has made the local currency less attractive. In addition, with Euro area assets

recovering in early 2013, we have seen CHF sell-offs for the first time since the floor was established in September 2011.

Anecdotal evidence suggests some safe haven inflows are reversing at the moment given that the Euro area tensions are

abating. Moreover, from a fair value point of view, the CHF strength should eventually reverse, as our forecasts indicate.

However, offsetting factors may limit the speed of the move, including pressures from the unwinding of legacy carry

trades, including mortgages in Central Europe and CHF-funded long-dated structured products. The Swiss balance of

payments situation also remains extremely supportive of the Franc.

Monetary Policy and FX Framework: The SNB targets inflation, with a ceiling on CPI set at less than 2% pa. Usually,

the SNB uses 3-month Libor as its policy instrument. However, to prevent deflation, the SNB has successfully enforced a

minimum rate for EUR/CHF at 1.20, and has said it is prepared to buy FX in unlimited quantities to defend it.

Growth/Inflation Outlook: GDP growth was 0.5%qoq annualised in Q2. The PMIs have been steady and inflation hasremained in negative territory, although the KOF leading indicator has shown consistent improvement over the last two

months.

Monetary Policy Forecast: We expect the SNB to maintain the minimum level for the EUR/CHF at 1.20 and for that rate

to remain in place until the risks of deflation have subsided. At that point, we would expect the Bank to switch back to

using interest rates as its main policy instrument.

Fiscal Policy Outlook: Switzerland has a low debt-to-GDP ratio; we forecast a budget surplus of 0.8% of GDP in 2013.

Balance of Payments Situation: The Swiss current account surplus remains strong, owing to a surplus on all

components. As a result, the NBoP remains in surplus despite negative net FDI flows. Switzerlands portfolio flow data is

complicated by its position as an international financial centre.

Things to Watch:While the risk of further SNB action has diminished, in particular a re-peg, owing to the stability ininflation, it remains important to monitor SNB commentary for renewed concerns over deflation or the effect of CHF

strength.

Thomas Stolper

EUR/CHF Switzerland: BBoP vs. Current Account


1.1

1.2

1.3

1.4

1.5

1.6

1.7

1.8

1.9

2.0

2.1

81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

00 01 02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


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Turkish Lira

FX Forecasts:We maintain our 3-, 6- and 12-month forecasts for $/TRY at 2.10, 2.20 and 2.40. This implies /TRY at 2.90,

3.08 and 3.36 in 3, 6 and 12 months. The current $/TRY GSDEER is 2.43 and /TRY GSDEER is 2.89.

Motivation for Our FX View:The TRY is undermined by large external imbalances, both stock (net foreign liabilities)

and flow (current account deficit). The recent re-pricing of emerging market assets has resulted in some TRY weakness.

The CBRT has launched a number of tightening measures, using TRY liquidity measures and FX interventions to help

manage the excessive volatility of the currency. However, the CBRTs reserves are not sufficient to withstand persistent

external shocks and further FX adjustment will be necessary to help ensure long-term external sustainability, as core

central banks move closer to normalising monetary policy over the next few years.

Monetary Policy and FX Framework:The CBRT formally adopted inflation targeting in 2006. The current medium-

term target is 5.0% for 2013.

Growth/Inflation Outlook:Growth expanded robustly in 2011 (8.5%) but the economy has since rebalanced through a

slowdown in investment demand and a weaker TRY. The annual GDP growth rate was at 2.2% in 2012. But, with a looser

domestic policy mix and relative external normalisation, growth should accelerate towards 4.5% in 2013. Inflation rose to

10.5% at end-2011. With relatively well-behaved commodity prices, but less favourable base effects and a reacceleration

in domestic demand, we expect inflation to come in at 7.8% at end-2013 and 8.3% at end-2014.

Monetary Policy Forecast:Faced with a reacceleration in capital inflows, weakness in global growth and policy easing

by core DM central banks, the CBRT cut its policy rates and delivered macroprudential tightening through ROC and RRR

hikes over most of 2H2012 and 1H2013. However, in response to excessive TRY volatility (generated by domestic political

uncertainty) and a broad-based re-pricing of EM risk over the last few weeks, the CBRT has changed tack again, launching

an Additional Monetary Tightening (AMT) program. The program combines rate hikes with FX interventions. However,

we expect the CBRT to hike policy rates further, by 225bp in 2014.

Fiscal Policy Outlook: Following a widening in the deficit to 5.5% of GDP in 2009, the government introduced

corrective measures in late 2010. Thanks to one-off items and robust domestic activity, the deficit fell further to -1.5% in

2012. In 2013, we expect fiscal policy to remain relatively benign, with a deficit in a 2% range. Further widening is likely in

2014, in the run-up to municipal and presidential elections.

Balance of Payments Situation:The current account deficit widened to 6.4% in 2010, peaked at 10.6% in 1Q2011 and

is currently running close to 6.8% of GDP (12-month rolling). We expect the deficit to widen towards 7.5% of GDP by end-

2013.

Things to Watch:External monetary policy developments and domestic political uncertainty.

Ahmet Akarli

$/TRY Turkey: BBoP vs. Current Account


0.0

0.5

1.0

1.5

2.0

2.5

95 97 99 01 03 05 07 09 11 13 15

Spot

GSDEER

-12%

-10%

-8%

-6%

-4%

-2%0%

2%

4%

93 95 97 99 01 03 05 07 09 11 13

% GDP4-qtr ma

CA

BBoP


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Ukrainian Hryvnia

FX Forecasts:We maintain our forecasts for the UAH at 9.2, 10.3 and 10.3 against the USD in 3, 6 and 12 months. This

implies EUR/UAH at 12.7, 14.4 and 14.4 in 3, 6 and 12 months.

Motivation for Our FX View: The NBUs currency peg has been under pressure since last Autumn. Ukraine has

requested IMF aid and two staff missions have visited Kiev this year. Although we think negotiations will be difficult, we

nonetheless expect Ukraine to reach a deal with the IMF in the coming months. This would set the stage for the NBU to

devalue the UAH by around 30% to 10.3. The IMF will likely request that Ukraine move towards a flexible exchange rate

regime and we estimate that a 30% devaluation would be required to close the current account. Our base case is for an

external adjustment in Q4, with a risk that this is pushed back further. Thus, we construct our forecasts probabilistically.

Monetary Policy and FX Framework:Monetary policy has been focused on maintaining the nominal exchange rate

peg. However, reserves have been continuously under pressure in the last two years, falling from US$38.4bn in April

2011 to US$21.6bn in September 2013 (2.6 months of imports). While the NBU has been able to loosen monetary policy

since the winter without accelerating the loss of reserves, base money growth of 14%yoy in an economy that has been

contracting will, in our view, ultimately add to pressure on the exchange rate sooner or later. The authorities have

introduced restrictions on FX transactions, such as a 50% export surrender requirement, to stem the decline in reserves.

Growth/Inflation Outlook:We forecast 2013 growth at -1%, after +0.2% growth in 2012. Output has declined as a resultof a credit crunch, the fact that fiscal spending has been restricted by access to funding, and a deterioration in external

demand. We expect negative growth in the short run, followed by a rebound in investment and exports. Inflation has

been running at close to zero all year, according to the official statistics, with no adjustment to utility tariffs despite rising

fuel costs, an appreciating currency against its trading partners in real terms and a shrinking economy. Our

growth/inflation view depends to a large extent on the magnitude and timing of the external adjustment.

Monetary Policy Forecast:Current monetary policy is almost entirely determined by the currency peg. Money market

rates reflect liquidity conditions, which are not bound by policy interest rates. With reserve losses likely to accelerate in

H2, we expect short-term rates to rise once more, as the NBU is obliged to tighten or allow the currency to adjust.

Fiscal Policy Outlook:The governments budget for 2013 plans for a deficit of over 3% and the IMF expects an overall

government deficit of 4.5% (including a 2% deficit for Naftogaz). Longer term, with two-thirds of its debt in hard currency

and a devaluation on the horizon, Ukraines debt dynamics are worsening. Debt/GDP could approach 45% in 2013.

Balance of Payments Situation:Under the currency peg, the current account deficit has widened as Ukraines terms

of trade have deteriorated. At around 8% of GDP and with reserve import cover now below three months, we think the

currency peg is unsustainable, particularly in light of US$5.7bn in NBU repayments coming due to the IMF in 2013.

Things to Watch:Developments with IMF negotiations, government debt redemptions, bank deposits and FX reserves.

Andrew Matheny

Ukraine: BBoP vs. Current Account

Source: Haver Analytics, Goldman Sachs Global Investment Research

-10%

-5%

0%

5%

10%

15%

20%

02 03 04 05 06 07 08 09 10 11 12 13

% GDP4-qtr ma

CA

BBoP


26/65



Americas

Argentine Peso

FX Forecasts: We maintain unchanged our 3-, 6- and 12-month $/ARS forecasts of 6.15, 6.53 and 7.36. This implies

/ARS at 8.49, 9.14 and 10.30 in 3, 6 and 12 months. The current GSDEER is 3.44 for $/ARS and 4.09 for /ARS.

Nevertheless, our valuation model uses the official inflation index, which is thought to have significantly underestimatedactual inflation since early 2007. If the higher, non-government inflation estimates are used, the undervaluation of the

ARS virtually disappears.

Motivation for Our FX View:The Central Bank seems to be accommodating a faster depreciation of the currency. The

ARS/USD depreciation drift accelerated to a monthly average of 2.4% in 3Q2013 (an annualised rate of 33%yoy), significantly

higher than the average of 1.5% in the previous 12 months. The USD has gained 23% against the ARS in the past 12 months

(up from 21% in the 12 months to August). Regardless of the acceleration in the depreciation in the bilateral parity, the

annual drift is still below the inflation rate (25.4% in August, according to non-government estimates). The hefty premium

(65%) of the implied $/ARS from blue-chip swap transactions reflects growing FX pressures.

Monetary Policy and FX Framework:The Central Bank justifies monetary policy through quantitative targets on M2,

but in practice it is subject to budgetary decisions, including debt servicing. The 2013 monetary program is sufficiently

lax, with a M2 growth target of 27%yoy. The Central Bank intervenes heavily in the FX market. The Bank partially mopsup the excess liquidity by issuing short-term notes (Lebacs and Nobacs).

Growth/Inflation Outlook:Real GDP growth accelerated to a surprising 8.3%yoy (+2.6%qoq sa) in 2Q2013, from 3%yoy

in 1Q2013. We expect official figures to show real GDP growth of 5.3% in 2013 (up from 1.9% in 2012), even when high

frequency indicators are not consistent with these rates. The government is thought to continue to under-report inflation:

official figures put headli

Documents

The Global FX Monthly Analyst - October 2013