Dollar soars as poor European data pressure ECB to cut rates

Tom Tong04/Νοέ/2013Currency Updates

Volatility returned with a vengeance last week to G10 currency markets.The Federal Reserve got the ball rolling on Wednesday. While it kept QE3 unchanged, as universally expected, it issued a relatively optimistic statement about the economic outlook and suggested that a January taper was a real possibility. Then on Thursday, a nasty downward surprise, together with very poor labor market data in the eurozone inflation brought back squarely the possibility of an ECB cut, as the eurozone recovery peters out and deflation threatens the sustainability of peripheral sovereign finances. The euro fell over three cents against the US dollar. Away from FX, equities held their own near record highs and commodities were down across all sectors.


The consumer-centric nature of the UK expansion was underlined last week by a series of second-tier macroeconomic reports. House prices continue to rise strongly along with the number of mortgage approvals. Manufacturing sentiment remains very buoyant, at 56, consistent with GDP growth north of 3% QoQ SAAR (Seasonally Adjusted Annual Rate). FX markets pretty much ignored this week less than critical reports, however, and sterling reverted to its role as a low-beta version of the euro, falling sharply against the dollar but raising equally strongly against the common currency.


Macroeconomic newsflow turned negative again in the eurozone in two critical areas: inflation and labor markets. Eurozone inflation registered a sharp downwards surprise, coming out at 0.7%, a whopping 40bp below expectations, and getting ever farther from the ECB’s official target of «close to, but below, 2%». This makes it even harder for sovereign finances in the periphery to get back on a sustainable path. Employment provided a second blow, as the jobless rate rose from 12.0% to 12.2%, yet another all time high, and evidence that the European labour market is nowhere near a rebound. The news from Italy were particularly distressing. The economy lost 80,000 net jobs in September. This is a disastrous number, roughly equivalent to -600,000 payroll report in the US.

We now think that an ECB cut is coming with a 50% chance that it happens next week, and a 50% chance that Draghi waits until the December meeting. We expect the downward draft in the common currency to continue at least until the euro has given back the 10 cents it gained over the past four months.


There were some mildly positive economic news out of the US last week. While retail sales fell sliglthy in September, down 0.1%, the more stable core, excluding sales of automobiles and gasoline, rose a strong 0.5% for the month. More importantly, the FOMC statement on Wednesday made it clear that the Fed is going to loo past the October debt ceiling charade, and remains no more than a couple of consecutive decent payroll numbers away from beginning the tape. This could happen as early as the December meeting, but we see January as a much more likely date, given Fed reluctance to start tightening cycles so close to the Christmas season. As a result, the timeline for Fed hikes was push forward and the dollar rose against nearly all major currencies.


Written by Tom Tong

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