Fiscal policy, geopolitics and safe havensWhen uncertainty sends money looking for safety.
Interest rates are only one force behind currencies. Government spending, geopolitical tension and big political events can move a pair just as hard, and they all work through uncertainty.
The forces beyond interest rates
Most of what moves currencies runs through interest rates and the data behind them, as the lesson on the jobs report showed. But 3 other forces can move a pair just as hard: fiscal policy, geopolitics and big global events. You need all 3 on your radar.
They look very different, but they share one thread. Each of them can make the future of an economy harder to read, and when that happens, money moves. It flows towards a currency that suddenly looks more promising, or away from one that suddenly looks risky.
Fiscal policy: same news, different readings
Fiscal policy is what a government does with taxes and spending. It is separate from monetary policy, the central bank’s job of setting interest rates and managing the money supply. Both can move a currency.
Say Japan launches a large stimulus package to build infrastructure or boost consumer spending. That can strengthen the yen. More spending supports growth, and a growing economy is more attractive to foreign investors, who need yen to invest there.
The market might read the same package very differently, though. If traders think it will lead to too much government debt or too much inflation, confidence in the currency drops and the yen weakens instead. The news is identical. The reading decides the direction.
The yen tends to strengthen.
The yen tends to weaken.
Geopolitics and the rush to safety
Geopolitics means political tension and conflict between countries. When tension rises, for example in the Middle East, markets often turn risk-off: traders pull money out of riskier assets and move it into safer ones.
In the currency market, the safe-haven currencies usually get stronger: the Japanese yen, which you met in the lesson on majors and commodity currencies, and the US dollar. The Australian and New Zealand dollars tend to fall, because their economies are closely tied to global growth and trade, which is exactly what investors worry about in a crisis.
That is why a single headline can swing pairs such as AUD/USD and USD/JPY. A risky currency against a safe one shows the mood most clearly. AUD/JPY often drops hard on a bad geopolitical headline, because both sides of the pair push the same way.
These moves can override the data you were watching. A long Australian dollar trade built on strong Australian numbers can turn against you within minutes when a conflict headline turns the whole market risk-off.
Big global events: the Brexit vote
Some events are large enough to reshape a currency for years. After the Brexit referendum in June 2016, uncertainty about Britain’s economic future sent the pound sharply lower against the dollar and the euro.
GBP/USD then went through long stretches of extreme volatility, with sharp drops whenever there was news on the Brexit process. That gave traders who followed the story big moves to work with, and it carried real risk for anyone holding pound positions without watching the news.
The point reaches beyond Britain. Political stability is part of what gives a currency its value. When a country’s future becomes harder to predict, investors are less willing to hold its money, and the currency falls.
You do not need to predict events like these. You need to notice them early and know how money usually reacts. Realtime Headlines shows breaking news as it lands, and the risk sentiment indicator shows whether the market as a whole has turned risk-on or risk-off.
When the future looks less certain, money looks for safety, and currencies move.
Mistakes to avoid
- Trading a big political vote with your normal position size. The swings around events like the Brexit vote can be far larger than usual, so size your trades for them or wait until the result is known.
In short
- Beyond interest rates, fiscal policy, geopolitics and big global events can move a currency as much as any data release.
- A spending package can lift or sink a currency, depending on whether the market reads it as growth or as too much debt and inflation.
- Tension sends money to safe havens: the dollar and the yen tend to gain while the Australian and New Zealand dollars tend to fall.
Key terms
- Fiscal policy
- How a government taxes and spends. It is separate from the central bank, which runs monetary policy.
- Geopolitics
- Wars, elections, sanctions and trade disputes that change how investors see risk in a country or region.
- Safe haven
- An asset investors buy when they are scared, such as the Japanese yen, the Swiss franc, gold or US government bonds.
- Risk-on and risk-off
- Risk-on: investors feel confident and buy stocks and higher-yielding currencies. Risk-off: they get nervous and move into safe havens.