US Dollar
After the temporary boost provided the dollar after Tuesday’s move to tighter
4.75 percent overnight lending rates, the currency lost most of its volatility
as traders awaited economic data that would back Fed comments either way. A
strong market reaction was initiated in the previous New York session after the
green Fed chief Ben Bernanke issued slightly more positive rhetoric than his
predecessor.
Yesterday however, this commentary has cooled in market participants’ minds and
the repetitive and cautionary terms “may”, “potential” and “possible” resonated
instead. With the market searching out any indicator that would potentially tip
off the Fed to sustained inflation, today’s session will offer a healthy dose of
central bank fodder. Scheduled for release are the final tallies of fourth
quarter gross domestic product and personal consumption. Though these are just
recalculated figures, any significant changes from previously reported levels
could be indicative of a greater spill over of inflation from higher commodity
prices in the business sector to the consumer arena. The same goes for personal
spending figures.
All of this aside however, yesterday’s equity market seems to have already
spoken its piece on the interest rate issue. With the NASDAQ composite rallying
to a five year high, it seems investors are confident that higher interest rates
will not create a serious dent in strong business profits that have drove shares
higher for much of the last three years.
Euro
After Tuesday’s plummet immediately after the announcement of higher interest
rates in the U.S., the Euro climbed slightly higher on market reconsiderations
of the implications behind the Fed’s rate hike. The European Central Bank is
likely to engage in some tightening of its own this year given the rapid rate of
growth that has been assumed by European economies, namely Germany. Business
confidence, which stands at it highest in over 14 years, is now being matched by
consumer optimism of the highest level in nearly a year. Already strong exports
have full potential of spurring growth on the domestic front, which stands to
improve on higher levels of employment and consumer spending.
Today’s release of German unemployment change could serve to strengthen the case
for growth at home. If indeed domestic growth comes to match the expansion that
has been supported by international demand, the ECB will have no choice but to
add to the strengthening trend of higher global interest rates. With ECB
President Trichet speaking in Zurich tomorrow, traders will be following
producer prices in both France and Italy. The possibility of continued wholesale
price inflation spilling over into retail markets could stir the ECB to tighten
rates from a level that is already considered relatively low by bank officials.
British Pound
Growth in the United Kingdom’s economy stepped up to its fastest pace in a year
in the fourth quarter of 2005. GDP grew at a rate of 0.6% from October to
December, ending a sour year on a more positive note. Strong economic data
regarding consumer credit, positive housing market related indicators, and a
potential increase in money supply suggest that inflationary pressure in the
British economy may start to build soon, which thus far has been described as
“remarkably benign” by BoE Governor King.
Furthermore, the Confederation of British Industry’s report on the industrial
sector points to healthy growth in manufacturing, registering a reading of -16.
Although only a moderate improvement over the previous index value of -18, the
CBI’s survey garners significant enthusiasm considering British industry fell
into a recession in the third quarter. Most important in the BoE’s list of
policy-setting criteria, however, will be the trend in consumer spending.
Although the fourth quarter’s drop in the national savings rate was encouraging,
retail sales got off to a poor start this year. March’s gain in expenditures was
weaker than expected—not what the BoE hoped for in its anticipation of a
consumption-led turnaround this year. If the BoE is to hold off on cutting
rates, domestic spending levels will have to improve slightly to match the
recent performance of British exports.
Japanese Yen
The Japanese yen exhibited some strength on the day after retail sales data fed
speculation of higher interest rates in the near term. According to the Ministry
of Finance, sales in the month of January rose at a 1 percent annualized clip,
better than expectations of a 0.8 percent rise. Comparably, on a monthly basis,
the figure declined less than expected slipping 1.5 percent. Earlier consensus
figures pitted the decline to reach 2.5 percent for the month.
As a result, with sales higher, it remains confirmed that consumers are
returning to stores on higher wage growth and growing confidence in future
economic expansion. Coupled with recent consumer price data and business
sentiment surveys, the report gives plenty of evidence for central bankers to
vote in favor of a clear cut end to deflationary policy. The only obstacle that
seems to be in place is unanimous agreement with the headline government. Should
that come to pass, market expectations would look to finally be met. Looking
forward, there still remains plenty of releases for the week. Next up, traders
will be concentrating on industrial production figures in contributing further
direction.
Kathy Lien is the Chief Currency Strategist at
Forex Capital Markets. Kathy is responsible for providing research and analysis
for DailyFX, including technical and fundamental research reports, market
commentaries and trading strategies. A seasoned FX analyst and trader, prior to
joining FXCM, Kathy was an Associate at JPMorgan Chase where she worked in Cross
Markets and Foreign Exchange Trading.
