Korea May Regulate Borrowing

Over the last two years, South Korea's overseas borrowings more than doubled, to $388 Billion. Nervous, perhaps, that Korean businesses may be overextending themselves, the government is seeking to regulate such activities. Based on the way the forex markets responded to the news, it must be perceived that borrowing abroad is helping the Korean economy. On the one hand, if loans are denominated in foreign currency and must then be converted to local currency, this would exert upward pressure on the Korean Won. On the other hand, this also requires more local currency to be printed, which fuels inflation. Much of the borrowings are being undertaken by shipbuilders who are trying to hedge their exposure to a rising Dollar. The Edge Daily reports:

Some analysts say the forward-trading-linked borrowing is not as big a problem as borrowing to fund consumption would be, but the government is worried that the sharp rise in debt over a short period of time could undermine the local financial system.

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The Strong Dollar Myth

When asked to discuss the official position of the USA with regard to its currency, Treasury Secretary Henry Paulson typically invokes the "Strong Dollar Policy." According to former Treasury Secretary Paul O'Neill, however, this policy is a "vacuous notion." Mr. O'Neill served as Secretary from 2001-2002, during which time he echoed the strong dollar sentiments of his forebears, without apparently ever believing that the US had any ability or intention to influence the value of the Dollar in forex markets. The implications of Mr. O'Neill's comments are such that the rhetoric of Secretary Paulson, as well as a recent warning by the G7 nations, are both wholly empty, and the Dollar's value will continue to rise and fall as determined by the markets. Bloomberg News reports:

O'Neill roiled currency markets when he was in office from 2001 to 2002, at one point with comments in an interview with a German newspaper that the U.S. pursued a policy of a strong economy, rather than currency.

Vietnam Dong to Slide Further

In the year-to-date, the Vietnamese Dong has fallen by .7%. That may not seem like much, but since the Dong/Dollar exchange rate is approximately 16,000 to 1, every .1% is meaningful. Unfortunately for Vietnam, analysts are predicting that the Dong will fall further, due to a confluence of factors. First, the Vietnamese stock market is tanking; the 42% decline recorded thus far in 2008 makes it Asia's worst performer and unattractive for foreign investors. The second factor is inflation, which is nearing 20% and is directly eroding the value of the Dong. Finally, there are technical factors, such as rising imports and market sentiment that the Central Bank will hold down the Dong to support the export sector. Bloomberg News reports:

"The key concerns are that inflation and excessive domestic growth have been allowed to persist. Those pressures have flipped from dong positive to dong negative.''

BOC Cuts Rate$

The Bank of Canada has cut its benchmark lending rate by 50 basis points, to 3.0%. The move was widely expected by analysts, although some of them had forecast only a .25% cut. Last week, economic data confirmed a mild rate of inflation in Canada, giving the BOC a green light to ease monetary policy without having to worry about the effect on prices. Despite commodity prices that remain at stratospheric levels, Canada's economy is sagging, due to the subprime crisis unfolding across the border. Some analysts have analogized Canada's situation to the dilemma facing the European Central Bank, which is reluctant to cut interest rates for fear of stoking the fires of inflation. As a result, the Euro has surged 8.5% against the Dollar in the year-to-date, while the Canadian Dollar has fallen. If the BOC opts to cut rates further, the Dollar could retake some of the ground it lost last year. Marketwatch reports:

Against the Canadian dollar, the U.S. dollar is likely to hold support around par, gradually firming back toward C$1.03 ahead of the U.S. Federal Open Market Committee meeting on April 30.

AUD Nears Parity

The word "parity" is becoming a mainstay of traders in the forex markets. In 2007, it applied to the Canadian Dollar, which had rallied 70% over the course of five years to reach the mythical 1:1 level against the USD. This year, it is the Australian Dollar that is threatening to surpass the Dollar in value. The AUD has always benefited from general USD weakness, but now the focus is shifting to the AUD, itself. The most recent Australian price data suggests that inflation in Australia remains problematic, which could force its Central Bank to raise the benchmark lending rate to 7.5%. In addition, high commodity prices and consequently strong exports should provide demand for the currency. As always, analysts are divided over the likelihood of parity, but that hasn't stopped them from bandying the term about. The Australian Age reports:

Parity was never a "ridiculous suggestion." "But it's probably a bit tougher going because the Australian economy is slowing," says one analyst. "Then again, if you saw a reacceleration in growth, that might be a different story."

Chinks in the Euro's Armor

2008 has witnessed a rapid appreciation in the Euro, which recently breached the psychologically important $1.60 barrier. Last week, however, the Dollar dramatically reversed course, leading many traders to speculate that the Euro's best days may be temporarily behind it. There are two ideas underlying this theory. First, the Federal Reserve Bank is probably near the end of its tightening cycle, while the ECB has yet to begin. In addition, recent economic data suggests that the Euro-zone economy, which has appeared recession-proof in spite of the credit crisis, may soon falter. The best-case scenario, according to Dollar bulls, would be a loosening of monetary policy in the EU simultaneous with tightening in the US. If such a scenario were to obtain, it would bridge the interest rate differential between the two economies, which many believe is behind the weakness in the Dollar. The Wall Street Journal reports:

If bad news out of Europe starts to accumulate and the Fed stands pat, the dollar’s slide could taper off.

Forwards Gain Retail Appeal

The anecdotal evidence for surging retail interest in forex is cropping up everywhere. Moreover, investors are no longer even limiting themselves to the spot market, utilizing derivatives to speculate on future exchange rates. In the UK, for example, 10% of investors intending to purchase real estate in the EU are utilizing forward agreements to hedge their exposure to the Euro, which has risen 10% against the Pound since the beginning of 2008. Evidently, prospective home buyers are hoping that the Euro returns to 2007 levels, which would significantly lower the cost of buying property there. However, if the Euro continues to appreciate, such investors could end up losing more than they bargained for. Homes Worldwide reports:

Even the movement in the markets over a couple of days can make the difference between owning a property and no longer being able to afford it.

April Marks Dollar Turnaround

Earlier this week, the Forex Blog speculated that the tide was turning on the Euro, which had retreated from the $1.60 threshold. Sure enough, the month of April saw the best monthly performance by the Dollar in over two years. The sudden about-face by the Dollar stems from changes in interest rate expectations. Only a couple weeks ago, the consensus among investors was that the Fed would cut rates further at its next meeting; the only point of uncertainty was whether rates would be cut by 25 or 50 basis points.

As of today, however, there is only a 25% chance that the Fed will cut rates at all, if you go by futures prices. Regarding the Euro, investors are no longer so sure that the ECB will hike rates in response to surging inflation. In short, the new consensus is that the US/EU interest rate differential has stabilized. Then there is the economic picture; investors have "chosen" to be pleasantly surprised by the most recent economic data. While the economic downturn still seems inevitable, it may not be as severe as investors had previously feared. Reuters reports:

In contrast to slightly stronger U.S. data, the Ifo German business sentiment index this week showed the biggest monthly fall since September 2001.

Turkish Lira Set for Decline

2007 was a banner year for the Turkish Lira, which appreciated 21% against the US Dollar. However, in the year-to-date, the currency has returned nearly 10% of this gain, making it the third worst performing currency in the world. Turkey generally, and the Lira specifically, are considered by investors as proxies for emerging markets. The global trend towards risk aversion, as well as skyrocketing inflation, are hurting many such currencies. In Turkey, inflation is so problematic (9.4% at last count) that the Central Bank has raised its benchmark interest rate to 15.25%. Ironically, the more the Lira depreciates, the harder it becomes for the Central Bank to control inflation, causing the Lira to slide further as part of a self-perpetuating free-fall. In addition, the country is beset by political uncertainty, as the courts determine whether the nation's current government can stay in office. Bloomberg News reports:

"The recent political developments are likely to complicate policy-making and the investment climate. The deteriorating political backdrop will in turn undermine the prospects for restoring fiscal discipline and reviving the reform agenda."

Fed Lowers Ratess

The Federal Reserve Bank recently lowered interest rates for the seventh, and perhaps final, time, bringing its benchmark federal funds rate to 2.0%. Since inflation is still hovering around the 4% mark, the Fed will probably be reluctant to lower rates further. Thus, the markets have been given all of the boost that they are likely to receive, and it is "fate" that will determine whether the economy will find its footing. (GDP growth clocked in at an anemic .6% for the last two quarters). The most recent data (including the just-released jobs data) indicate that the economy may be stabilizing, although consumption and the employment situation are still deteriorating. As a result, the National Bureau of Research has yet to officially declare the current economic downturn a "recession," since the picture remains nuanced. The New York Times reports:

The recession-or-not question is now almost entirely academic, Mr. Bernstein contended, given the steady erosion of American spending power and soaring costs for food and gasoline.

Korean Won is Worst in Asia

In the year-to-date, the Korean Won has recorded the worst performance of any currency in Asia, having recently fallen to a 6-week low. The story is being driven as much by Dollar strength is by Won weakness. US equities have rallied over the last month, as investors may have been overly pessimistic in the previous months regarding near-term US economic prospects. In addition, the Fed has probably lowered interest rates for the last time, whereas the Central Bank of Korea has held its benchmark lending rate at 5% since the summer. This yield differential, which currently favors Korea, may narrow substantially over the coming months, as the Bank of Korea is forced to reckon with slowing growth and rising inflation. Bloomberg News reports:

Growth, at the slowest in more than three years last quarter, is losing momentum, the Bank of Korea said in a report on May 1. Policy makers next meet on May 8 to decide on the benchmark seven-day repurchase rate.

Commentary: The Dollar Conundrum

The Dollar is currently teetering on the edge of a precipice. Many analysts are predicting that, having recently retreated from a record low against the Euro, the Dollar's best days are still in front of it. On the other hand, the economic data and interest rate pictures remain nuanced, and still favor the Euro on paper. In this article, we aim to sort through this morass, and produce a clear summation of the factors which bear on the Dollar in the short term.

Let's begin with the bullish side of the equation, which is supported by the Dollar's recent upside swing. First of all, while interest rate differentials are currently hurting the Dollar, the Fed is probably near the end of its loosening cycle, while the ECB has yet to begin. The best-case scenario would be a tightening of US monetary policy simultaneous with a loosening of EU policy. Next, there is the economic picture. The most recent GDP data indicates an economy that is still growing, albeit slowly. In addition, the unemployment rate declined in the most recent month for which data is available. The US stock market has regained half the value it lost in the first three months of 2008, and the overall P/E ratio is close to its long-term average, which suggests the markets could appreciate further. Finally, the economic stimulus package that was approved by Congress in March will go into effect this month, as tax rebates worth $150 Billion are distributed to consumers and businesses.

On the bearish side, let's return to the interest rate story. While the future certainly bodes well for the US, the present still favors the EU. US interest rates are currently negative in real terms, and investors have already turned the Dollar into a funding currency for carry trades. Moreover, negative real interest rates implies high inflation. US CPI is hovering around 4.0%, and could continue to climb in proportion with surging food and energy prices. In fact, inflation is now viewed by economists as more problematic than the economy, itself. While US exporters have benefited from the resulting cheap Dollar, US consumers- which account for 75% of the US economy- have not. The economic downturn still has not officially been labeled a recession by the Bureau of Economic Research, but the situation remains tenuous, and the scales could easily be tipped by a few pieces of negative economic data.

The wild card in this mess is housing. In certain regional markets, real estate prices have tumbled by 30%. In other markets, they have hardly budged. While an estimated $350 Billion in subprime debt has already been written down, analysts disagree over the eventual total. Estimates vary from $1 Trillion to less than $350 Billion, which would imply "write-ups" on debt that was erroneously declared worthless. The difference represented here amounts to 6% of GDP, which could mean the difference between growth and contraction, a strong Dollar and a weak Dollar, respectively.

Visa Credit Card Applications

Today, everyone has a credit card. From teens to corporate professionals to retirees, everyone is enjoying the ease and benefit of carrying CCs. However, before applying for a credit card, there are several factors to consider when deciding what credit card is best for you.

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Believe it or not, there is a perfect credit card program out there for anyone. Which of these programs is right for you will depend on several factors, such as:
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* Payment structures (how you will pay it back)
* Special interests
* Number of current credit cards
* Income (how much money you make)
Credit cards are also issued through numerous financial groups and organizations. For example, it’s not only banks such as Bank America offer credit cards to their members. Specialty financial organizations such as American Express Financial Group—who offers the American Express card—and Novus—who offers the Discover Card—do as well. The only difference is some organizations may be more competitive about interest rates and qualifications than others.

Which CC is Right for Me?
Before applying for a credit card ask yourself these questions:
- Why do you want/need a credit card? – Maybe you need one credit card with a special interest rate to transfer balances from multiple accounts or perhaps you need a card specifically for business purposes. Being able to earn rewards, cash back or airline miles for your everyday purchases can also be a reason to get a credit card.
- How much do you need to charge at one time? – If the credit card is for business purposes, maybe you need a card with very high or no spending limits. On the other hand, if this is your first card and you are trying to build credit or just want the card for emergencies, then a more modest spending limit may be the better route to go.
- How do I want to pay back the charges? – Decide if you want to pay off the entire balance each month or just a portion over each month. Some cards offer advantages for both paying structures.
- Do special offers interest me? – Many credit cards offer special rebates, support for a specific organization or other member benefits for using their credit cards. Decide if this is important to you when choosing your card.

Managing my credit
Now that you know what type of credit card you want, it is time to manage your credit. A credit card is a responsibility, not a right. Understanding why you want a credit card, knowing how the credit card process works and picking a credit card that works best for you will help you avoid debt management pitfalls. Use your credit card to extend your buying power while keeping in mind that a credit card is not free money. To maintain a good credit rating, you will need to pay your credit card statements in a timely manner, according to your agreed-upon terms of use. Be responsible with your credit and enjoy the benefits credit card possession can bring. If you have questions or concerns about what is the right card for your specific credit or financial need, talk to a professional financial advisor. Take the extra step and be sure you understand everything you need to know before applying for a credit card.

Retail Appeal of Forex Grows

With average daily turnover of $3 Trillion, the foreign exchange markets are the largest financial markets in the world. Despite boasting such impressive volume and liquidity characteristics, forex is nonetheless considered extremely risky, and thus viewed as the bastion of experienced traders. This is slowly beginning to change, as investors have moved to diversify their portfolios away from the traditional allocation of stocks, bonds, and cash. Investing directly in forex still not recommended by financial advisers. However, there exist alternative strategies, such as buying CDs denominated in foreign currencies and/or securities that are issued by foreign companies and trade on domestic exchanges. These kinds of "indirect" strategies typically take the form of either "single play" or "double play" strategies. With both strategies, investors attempt to profit through cross-border interest rate disparities, but with "double play" trades, investors seek to profit from currency appreciation as well. The New York Times reports:

Mr. Orr advised currency buyers to research foreign nations and their credit risks, determine at the start their own risk-reward ratio and tolerance to volatility, and have exit strategies, while watching their positions constantly.

Central Bank of Japan Appoints Leader

For several months, the Central Bank of Japan had been leaderless, creating a situation that was politically and economically awkward. Finally, after much debate, Masaaki Shirakawa, a former academic and veteran central banker, was appointed. It is unclear what effect Mr. Shirakawa will have on Japan's economy, which is foundering (for reasons unrelated to the global credit crunch). He is considered highly competent, and analysts have suggested that he could help Japan develop a sensible and focused economic policy, which has been lacking for quite a while. With regard to monetary policy, he is unlikely to either raise or lower interest rates from the current level of .5%. Thus, if he is to return Japan to economic credibility, he will have to use other methods. Nonetheless, analysts are optimistic. The New York Times reports:

Simply having a hand at the central bank’s tiller will do much to restore global confidence in Japan and its ability to manage its $5 trillion economy, economists and former bank officials said.

USD: Where is it Headed?

The last week has seen a spate of positive developments in the financial markets, including reassurances by several bulge bracket investment banks that their respective capital positions are in strong and in no need of shoring up. As a result, some analysts are speculating that the worst of the credit crunch has already been priced into securities and the USD, and that actual write-downs on subprime mortgage obligations won't match the "Himalaya-like guesstimates." At the same time, job losses are mounting and the unemployment rate recently crossed 5% for the first time in two years. Interest rate futures contracts suggest a 20% chance that the Fed will cut rates by 50 basis points at its meeting on April 30. Then, there is the ECB, which has been vocal about fighting inflation and European financial markets, which have benefited from "domestic" investors diversifying within the EU rather than to the US. Thus, there is no definitive answer regarding where the Dollar is headed in the near-term: everyone seems to have their own opinion. Bloomberg News reports:

The Dollar Index traded on ICE Futures in New York, which tracks the currency against those of six trading partners, dropped 0.2 percent to 72.049, its third straight decline. It was at a record low of 70.698 on March 17.

Forex Leads Equities

In recent months, the credit crunch has ignited a global trend towards risk aversion. As a result, a correlation has developed between equities, which serve as a proxy for risk, and certain currencies. The Forex Blog previously covered the link between the S&P 500 and the Japanese Yen, whereby the Japanese Yen moved inversely with the S&P as a decline in risk appetite led carry traders to unwind their positions. Perhaps, this connection can be seen in other currencies. Since the forex markets are open 24 hours a day and are the most liquid financial markets in the world, macroeconomic events are often priced into currencies before they are priced into equities. In addition, carry trading strategies have expanded beyond the Japanese Yen. In fact, the USD is now a decent candidate as interest rates are negative,when adjusted for inflation. Thus, an increase in risk appetite could simultaneously boost the S&P and punish the Dollar!

USD: Worst Quarter in 4 Years

In the first three months of 2008, the USD notched its worst quarterly performance since 2004, falling over 8%. During the same period, the Dollar lost 10% of its value against the Japanese Yen and 6.4% against a broad basket of currencies. Forex analysts reckon the slide was so steep because investors have taken stock of the US economic situation and have concluded that recession is inevitable. The story is also being driven by interest rates. The Fed has already cut rates by 300 bps in the current cycle of easing, making the benchmark federal funds rate the lowest in the industrialized world, in real terms. Meanwhile, the European Central Bank is giving every indication that it will maintain rates at current levels in order to keep a lid on inflation. As a result, the Dollar could fall further, especially if the Fed continues to hike rates and investors use the currency to fund carry trades. Reuters reports:

[According to one analyst], "And to call a bottom now is still a very risky call. It's too early to say the worst is behind us and the dollar's in for a sharp rebound."

Barclays Introduces Carry Trade ETN

Through its trademark iPATH line of funds, Barclays Bank recently introduced a new ETN designed to mimic the carry trade. In accordance with this strategy, this note is linked to the performance of the Barclays Intelligent Carry Index, which aims sell low-yielding currencies and use the proceeds to invest in those that offer higher yields. This index holds varying combinations of the so-called G10 currencies, which includes all of the majors as well as the Norwegian Krona and Swedish Krona. Traditionally, carry traders have sold one specific currency (i.e. Japanese Yen) in favor of another currency (i.e. the New Zealand Dollar). By instead purchasing this note, which will trade under the ticker ICI, investors can buy a share of an entire portfolio, optimized expressly for this strategy. Comtex reports:

The index is composed of ten cash-settled currency forward agreements, one for each index constituent currency, as well as a "Hedged USD Overnight Index" which is intended to reflect the performance of a risk-free U.S. dollar-denominated asset.

Fundamentals Harm Emerging Market Currencies

Since the inception of the credit crunch, one of the themes in forex markets has been the surprising strength of the Dollar. Despite growing economic uncertainty, the US is still viewed as a relatively safe place to invest. On the other hand, emerging markets, especially those with current account deficits, have witnessed capital flight and subsequent currency depreciation. The currencies of South Africa and Iceland, for example, have both experienced declines 20% since the start of this year. Risk premiums had fallen to historic lows prior to the credit crunch, and neither country experienced great difficulty financing its respecive deficits. However, investors are growing increasingly nervous and are shifting capital to countries with stable current account balances. The Financial Times reports:

Goldman Sachs says: "We have long argued that in times of global turmoil suppliers of capital are poised to outperform countries in need of capital. However, it is only since January 2008 that we have seen the current account theme really gain momentum in the FX market."

Bank Collapses, USD Plummets

Over the weekend, Bear Stearns, a prestigious American investment bank, hurriedly scrambled to find a buyer in order to avoid having to file for bankruptcy. While a buyer (JP Morgan) was ultimately secured, investors remained jittery, as the collapse of this magnitude is virtually unprecedented. When forex markets re-opened on Monday, the Dollar crashed against all of the world’s major currencies, namely the Euro and the Yen. Furthermore, analysts are now beginning to view forex intervention as increasingly likely. It’s still unclear whether the Bank of Japan or the European Central Bank (with or without support from the Fed) would spearhead any such intervention. At the breakneck speed at which events are unfolding, however, no one will be surprised if a plan is quickly cobbled together. The Wall Street Journal reports:

“Were such intervention to be seen, (the euro) could briefly trade down to $1.55, yet unless the (ECB) is prepared to back up such intervention with a rate cut, intervention will be futile,” said [one analyst].

Together with a syndicate of big banks, Merrill Lynch newly formed ELEMENTS, which unveiled five original currency Exchange Traded Notes (ETNs. Before ML entered the marketplace via ELEMENTS, there were simply two banks offering currency ETF products: Barclays Capital and Rydex, whose funds are proprietary CurrencyShares and iPath, respectively. ETNs disagree from ETFs in that the onetime constitute a debt responsibility whereas the latter constitute a kind of fairness. In use, however, since the danger of nonpayment is comparatively reduced, the two types of securities are functionally equal. Both salary stake somewhat below the benchmark stake rates of the currencies to which they are connected. The five original ELEMENTS ETNs are individually tied to the operation of the Canadian Dollar, Euro, Swiss Franc, British Pound, and Australian Dollar. Index Universe reports: Why would anyone select the original ELEMENTS ETFs? Because they take biannual cash dividend payments to noteholders based on the int

Technical Analysis - The Basics

Yesterday, the Forex Blog featured a tale that explained how to have money when unpredictability is reduced. The consensus of the clause is that investors must switch their scheme from trading to trending, which requires a readjustment in prospect from short-term to long-term. But given that unpredictability is reduced and that currencies frequently go laterally against each new, how do you recognize which instruction to wager on, and accordingly, when to purchase or trade? The response requires some insignificant technological analysis, involving two of the almost fundamental tools accessible: backing and opposition. These terms constitute approximate cost levels within which a particular currency appears to be trading. The meaning of these levels is normally capricious, and is probably grounded in psychology quite than any genuine mathematics. Furthermore, formerly the form is spotted, the backing and opposition levels frequently get self-fulfilling, keeping the currency rangebound. But, when, for whatever cause, the currency dips below or rises above

USD Spirals to Fresh All-Time Lows

The reports released today showed no revision in Q4 GDP, unchanged at 0.6% while core PCE prices also held steady for the quarter at 2.7%. However, weekly jobless claims jumped higher to 373k, versus 349k from a week earlier – highlighting continued weakness in the US labor market and shifting focus to next week’s jobs data. Consensus estimates call for the February unemployment rate to creep back up to 5.0% while non-farm payrolls are forecasted to reverse last month’s 17k contraction, instead improving by 35k.
Economic data slated for release tomorrow will see January PCE, personal consumption, personal income, February Chicago PMI and the February University of Michigan sentiment survey. The Fed’s preferred gauge on inflation, the personal consumption expenditures (PCE) price index is likely to remain buoyed in January, highlighting the predicament facing the FOMC in maneuvering monetary policy. Meanwhile, Chicago PMI in February is expected to fall below the key 50-level, dropping to 49.7 from 51.5 in January. The University of Michigan sentiment survey is forecasted to fall to 70.0 in February versus 78.4 a month earlier. However, the risk for a sharper decline remains given the unexpected plunge to 5-year lows in the Conference Board’s consumer confidence survey earlier in the week.
The US data being released continue to bode poorly for the economic outlook, and consequently, for the dollar – which remains mired in a downward spiral across the board. The greenback’s losses against the euro accelerated after breaching the 1.50-level yesterday plunging further to near 1.52 and slumping to a new 24-year versus the Australian dollar around 0.95. Burgeoning fears of an imminent recession and the increased scope for additional aggressive monetary policy easing from the FOMC have given traders the greenlight to dump dollars – plunging to new all-time lows against the euro and Swiss franc.

USD Losses Accelerate

The beleaguered dollar found no reprieve against the majors, with the accelerated selling pushing the currency to fresh all-time lows against the euro, Swiss franc, 24-year lows versus the Aussie and 3-year lows versus the yen. Underscoring the greenback’s weakness has been the continued deterioration in US economic reports, raising fears of an imminent recession and reaffirming the Fed’s need for further aggressive monetary policy easing over the coming months.
The reports today included January PCE, consumption, personal income, February Chicago PMI and the University of Michigan sentiment survey. Inflation remains firm as the January PCE price index edged higher with the monthly figure ticking up to 0.4% from 0.2% and 3.7% versus 3.5% a year earlier. The core PCE price index firmed to 0.3% m/m and 2.2% y/y. Personal consumption was flat in January and personal income eased to 0.3%, down from 0.5%. Boding poorly for the economy and the greenback was a dismal February Chicago PMI report, which fell sharply to 44.5, far greater than the expected decline to 49.7 from 51.5 from January – beneath the key 50-level. However, the University of Michigan sentiment survey in February fell by slightly less than estimates, declining to 70.8 instead of forecasts for a fall to 70 from 78.4 a month earlier.
Central bank policy decisions and US economic data will dominate the headlines next week. The ECB, BoE, BoC, BoJ and RBA are scheduled to announce policy decisions, with the Reserve Bank of Australia seen tightening rates by 25-basis points to 7.25%. The key highlight from the US will be Friday’s labor report, with the unemployment rate for February expected to edge higher to 5.0% from 4.9% and non-farm payrolls reversing the 17k jobs contraction from January, growing by 35k.

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USD Weighed on Bernanke`s Assessment

Fed Chairman Ben Bernanke said the outlook for the economy has worsened in recent months and that downside risks to growth have increased. He provided a somber assessment of the housing market, labor market and credit conditions, adding that conditions could worsen more than anticipated. Bernanke expects sluggish growth in the near term but anticipates a stronger pace later as monetary and fiscal stimulus trickle into the economy. He emphasized lags in monetary policy and that stance should be assessed in light of medium term forecasts and risks. Further, Bernanke sees overall CPI easing from recent rates and expectations remain anchored. He said the Fed would closely monitor inflation expectations. Bernanke’s comments reinforce market sentiment that the FOMC will maintain its easing stance, saying it would “act in a timely manner as needed to support growth and to provide adequate insurance against downside risks”.

The dollar fell against the euro and sterling, slipping to 1.4647 and 1.9736, respectively. The greenback was unable to sustain earlier gains following better than expected US economic reports as hints of further interest rates cuts from the FOMC weighed on the currency.

The data included weekly jobless claims, which eased to 348k down from 356k a week earlier. Meanwhile, the December trade deficit shrunk by more than estimates, falling to $58.76 billion, compared with calls for a decline to $61.5 billion from $63.12 billion in November. Also, the deficit with China fell to $18.79 billion versus $23.95 billion from November.

Weak US Data Drags USD

The dollar eased further versus the euro and sterling following another round of weak US economic data, falling to 1.4708 and 1.9722, respectively. A key indicator of consumer confidence fell to its lowest level in 16-years with the University of Michigan preliminary sentiment survey dropping to 69.6, versus 78.4 from January. Industrial output in January crept up marginally to 0.1% versus a flat reading in December. Meanwhile, capacity utilization also increased slightly to 81.5% from 81.4% a month earlier. Also released was the December net capital flows (TIC), which more than halved to $60.4 billion, versus a revised $150.8 billion a month prior.

The string of soft US data reinforces fears that the economy is headed toward a recession, thereby prompting the Fed to aggressively ease rates over the coming months. Fed funds futures contracts reflected a 60% probability for the FOMC to cut rates by 50-basis points to 2.50% at the next policy setting meeting in March.

AUD Rallies on Hawkish RBA

The dollar is weaker against the euro and Aussie as the US market returns from holiday, falling to its lowest level in 3-months versus the Aussie at 0.9236 and a 2-week low against the euro at 1.4756.

The NAHB housing market index unexpectedly rose to 20 in February, versus 19 a month earlier. Nonetheless, despite the improvement, the index remains mired near record lows. Traders will turn to US economic data slated for release on Wednesday, which include January CPI, building permits, real earnings, and housing starts. Consumer prices in January are largely unchanged, with monthly headline CPI at 0.3% from 0.4% and 4.2% versus 4.1% from the previous year. The core readings are seen at 0.2%, unchanged from a month prior and 2.4% y/y, also unchanged.
The Aussie rallied to its highest level since November against the greenback at 0.9236 following the release of the minutes from the Reserve Bank of Australia’s February meeting – in which the RBA hiked interest rates by 25-basis points to 7.0%. The minutes reinforced market sentiment for further policy tightening over the coming months and revealed consideration from Board members for a more aggressive 50-basis point hike in February. The rationale for a more aggressive move was deterioration in the inflation outlook and “the risk of inflation expectations becoming dislodged had increased”. The RBA added that “a significant further rise in the cash rate could be necessary” on the premise that “the current cash rate in real terms arguably was noticeably below what might be expected given the economy’s circumstances”.

Fed Lowers Rates...Again

Today, the Federal Reserve Bank lowered interest rates for the second time in as many weeks, bringing its benchmark federal funds rate down to 3.00%. The Fed has now lowered rates by 2.25% since August. The move came as a relief to investors, who now see that the Fed is serious about preventing the economy from slipping into a full-scale recession. However, it remains to be seen whether the rate cuts will provide the necessary boost to the economy or instead prove too little too late. As far as the Dollar is concerned, the rate cuts carry two (conflicting) implications. On the one hand, the economy and stock market could rally, which would likely be matched by a Dollar rally. On the other hand, the interest rate differential between the US and EU is now a 1% and risk-averse investors hungry for yield will be hard-pressed to justify shifting capital to the US. The New York Times reports:

Many economists are far from convinced that even a combination of tax rebates and cheaper money would prevent a recession. And in a sign that bond investors are fretting that the moves could lead to higher inflation, yields on 10-year and 30-year Treasury securities edged up slightly on Wednesday.

USD Drifts Lower, JPY Gains

The dollar slipped against the euro and sterling at the start of the week, drifting to 1.4576 and 1.9528 amid a dearth of US economic data. Meanwhile, the yen continued to benefit from heightened global risk aversion, edging higher against the euro at 154.29 and sterling at 206.78.

The G7 Finance Ministers meeting provided little news for fx traders, reiterating its stance on China to increase currency flexibility but refraining from singling out the dollar’s weakness. Further, the ministers stressed that exchange rates should reflect economic fundamentals and that excess volatility and disorderly movements are undesirable. The communiqué stated they would “closely monitor developments and take appropriate actions, individually and collectively, in order to secure stability and growth” in the economies.

Why the Fed Cut Rates

It seems self-evident that the Fed is easing monetary policy because it is trying to stimulate the economy and shore up confidence in capital markets by making credit less expensive. Dig a little deeper, however, and a more nuanced picture begins to emerge. Conspiracy theorists believe that the Fed knows something that investors don't, perhaps that the subprime mortgage situation is more serious than the public is being led to believe. Accordingly, the theory goes, it is trying to prevent a complete collapse of the financial system. Another theory holds that the Fed is cutting rates because it has nothing to lose by doing so. Inflation is still low, from a historical standpoint, and the Fed may be trying to inject liquidity into the financial markets before it is too late. Yet another theory holds that the Fed is deliberately targeting a weak Dollar and high commodity prices, as the former benefits the US directly by narrowing the trade imbalance, and the latter benefits the US indirectly by helping emerging market economies, which are relatively more dependent on commodities. The Chicago Tribune reports:

An increase in exports was one of the positive features of Wednesday's disappointing fourth-quarter report on U.S. gross domestic product. The cheaper dollar is a major factor in export growth, both in terms of current sales and expansion of overseas market share by U.S. manufacturers.

USD Resilient to Dismal Payrolls

The dollar shrugged off a dismal labor report in early Friday trading – slipping initially following the release, but rallying sharply after traders digested the news. The greenback fell just shy of a fresh all-time low against the euro at 1.4954 before surging to 1.4788 while pushing the sterling beneath the 1.97-level to 1.9655.

The non-farm payrolls for January unexpectedly contracted by 17k, considerably worse than calls for an increase of 80k – and shrinking from an 18k increase in payrolls in the previous month. The unemployment rate, however, improved to 4.9%, drifting from 5.0% a month earlier. Average earnings edged up by 0.2%, but down from 0.4% previously, while the average work week was marginally lower at 33.7 hours. Also released today were January manufacturing ISM, which defied estimates for a decline to 47.3 from 47.7, instead improving to 50.7 and the University of Michigan consumer sentiment survey, improving to 78.4 from 75.5.

Dismal Data Weighs on USD

The dollar’s recent rebound against the euro and sterling was undermined by weak economic data. The reports released earlier today added to burgeoning fears that the US economy is headed toward a recession. A combination of poor housing data and a disappointing Philadelphia Fed survey set the tone for the trading session, with the greenback initially weaker across the board. The reports also fueled expectations for aggressive policy easing from the Fed beyond the largely priced-in 50-bp rate cut anticipated at the end of the month.

Housing starts for December plunged by over 14% to 1.006 million units, its lowest level in 16-years. Consensus estimates were calling for a drop to 1.14 million units versus 1.187 million units from the previous month. December housing permits declined by 8.1% to 1.068 million units, versus a 0.7% drop in November at 1.162 million units. On a positive note, weekly jobless claims declined to 301k from 322k.

The January Philadelphia Fed survey revealed dismal economic conditions, falling to its lowest level in six-years to -20.9, far greater than expectations for a decline to -1.0 from -1.6 from December. The employment index dipped into negative territory in January to -1.5 from 3.8 in December, its lowest level since September 2003. The new orders component fell to -15.2 in January, a sharp reversal from the 12 reading in December.

USD Recovers

The dollar stabilized against the majors on Monday following last week’s US data-induced plunge. The greenback climbed to a 4 ½-month high against the sterling to 1.9655 while edging up to 109.72 versus the yen. Sentiment over the direction of global interest rates will dictate currency movements this week, with both the ECB and BoE announcing the results of their policy deliberations on Thursday and Fed Chairman Bernanke speaking on “Financial markets, economic outlook and monetary policy”.

The lackluster US economic reports last week fuelled speculation for a 50-basis point rate cut from the Fed when it meets at the end of the month. However, given the current outlook for inflation it remains to be seen whether the FOMC will move aggressively to stimulate the struggling economy. The coming week will see a barrage of Fed speakers, including Board members Plosser, Rosengren, Poole, Hoenig, Mishkin and Chairman Bernanke. The comments will be closely scrutinized for clues on the scope for additional easing.

Atlanta Fed President Lockhart delivered a somber assessment of the economy, saying the negatives may be gaining momentum and that now is a time of heightened uncertainty. He said that market contacts have expressed serious concern about further market deterioration and spillover. However, he remains troubled by the elevated level of inflation despite expecting inflation to moderate this year. He believes the Fed has been attentive in making appropriate policy responses to the economic situation. Lockhart added that the Fed is balancing concerns about inflation with serious concerns about growth.

Divergent CB Outlooks Drive FX

The dollar tumbled against the euro, breaching the 1.48-level in the face of sharply divergent comments from each respective central bank’s chief. ECB President Trichet hinted at further tightening on the back of Eurozone economic strength, while Fed Chairman Bernanke offered a somber assessment of the economy and raised expectations for a 50-basis rate cut at the next policy meeting.

Chairman Bernanke said the Fed stands ready to take “substantive action” to support growth and that further easing “may well be necessary” in light of risks to growth. While the December jobs data was disappointing, Bernanke said it would be a mistake to read too much into one report. Nevertheless, he feels the baseline outlook for 2008 has deteriorated and the downside risks are now more pronounced. Further, Bernanke said that inflation expectations remain reasonably anchored.