The next 2 days should be exciting, here’s why

US Dollar

After three consecutive days of gains, we
primarily saw profit taking in the dollar yesterday ahead of what will probably
be the two most exciting days in the currency market this week. With an empty
economic calendar today, the market had banked its hopes on Fed speak, and even
though Greenspan’s words shook yields up a bit, it did little for the US dollar.

Both Greenspan and Fed President Bies continued
to warn about “speculative excesses” in the market but none of this is really a
dramatic shift in stance for a committee that has been hawkish since June 2004.
Between tomorrow and Friday, there are a lot of very important US data scheduled
for release with the US trade deficit taking center stage first. The market
expects the deficit to widen from -$57.9B to -$59.5B in August, just shy of the
-$60.2B low hit back in February.

With oil prices hitting all time highs and up 17
percent in the month of August, the risk is for a larger than expected deficit.
At bare minimum petroleum imports should be higher than the previous month, but
judging from the trend in port shipments, imports from China have also been
picking up at a briskly pace.

Taking a look at the country’s own monthly trade
report, their surplus was over $10B in August, up from $7.5B in September.
Growing demand for Chinese imports and higher energy prices could push the
deficit to a new record high, which if it is the case could push the EUR/USD
back towards 1.2150. More realistically though, any gains off of a weaker number
could be limited as the market remains hesitant ahead of Friday’s consumer
prices, retail sales and industrial production numbers.


Yesterday’s rally did little to help clear the
thousand-ton weight hanging over the euro at this point. Germany’s harmonized
consumer inflation index was revised down on an annualized basis from 2.7
percent to 2.6 percent. This still leaves the inflation rate solidly above the
European Central Bank’s 2 percent pain threshold, justifying the central bank
President’s staunchly hawkish stance.

Furthermore, it did not take long for politics in
Germany to come back to the forefront. Even though it has been agreed that
Merkel will be assuming the post as the next Chancellor of Germany next month,
the “grand coalition” is already facing its first stumbling block. Schroeder’s
SPD party, which is suppose to stake claim on the majority of the ministerial
positions in the new government are already fighting amongst themselves about
how the seats will actually be allocated within its in own party. If infighting
is already happening within a group that is already use to working together, it
remains to be seen how much infighting will be happening between two groups that
may see each other as arch enemies. Any infighting will diminish the speed by
which the new government can bring reforms to the country.

British Pound

The great rate debate churns on as earnings
growth and unemployment data was released during the session. Rising 4 percent,
according to the office of National Statistics, earnings continue to increase at
an easing pace, the lowest rate in nearly a year and a half. Subsequently, the
claimant count remained steady at 2.8 percent, while unemployment change rose
for the eighth consecutive month. This poses further directionless bias in the
U.K. economy. On one hand, slowly rising wage costs may comfort policy makers,
as earlier concerns existed over the contributions to overall inflationary
pressures in a tight labor market.

However, on the other, unemployment is rising in
the region, especially as the manufacturing sector has shed about a 3 percent
difference on the annualized comparison. Ultimately, what is apparent is that
there may be some room for policy makers to wiggle in an additional rate cut
consideration, as inflationary pressures, in line with earlier comments by
Governor Mervyn King, seem to remain temporary. Granted that energy prices may
not abate any time soon given the winter season, inherent wage cost declines may
offer that final push that policy makers need to accommodate to continually weak

Japanese Yen

Bucking the trend of recently optimistic data in
the world’s second largest economy, consumer confidence dipped for the second
consecutive month in six. According to the Cabinet Office, consumers weighed
down by higher energy prices remained less optimistic of the near term future,
wages and employment conditions. What’s notable is the fact that the drop keeps
the reading below the key expansionary 50 level and can be suggestive of waning
consumer demand in the near term. However, countering the notion have been
recent increases in retail sales and household consumption. Previously a major
concern, as both contribute tremendously to overall economic growth, both
factors have increased during their respective months. As a result, the current
confidence reading may be taken with a grain of salt as the report looks to be
lagging overall optimism.

Moreover, with both declining surveys taken in
months leading up to the parliamentary elections, the politically intense
environment may have contributed more than current economic factors. With that
said, market participants are now looking to tomorrow’s inflationary data in
lending further underlying yen strength. Producer prices, slated for release,
should be reflective of higher energy costs. However, any continued signs of
persistent deflation will add to current indecision in the underlying spot.

Kathy Lien

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.

Kathy has vast experience within the interbank market using both technical and fundamental analysis to trade FX spot
and options. She also has experience trading a number of products outside of FX,
including interest rate derivatives, bonds, equities, and futures. She has a
Bachelors degree in Finance from New York University. Kathy has written for
Stocks and Commodities, CBS Market Watch, ActiveTrader, Futures and SFO
Magazine. She is frequently quoted on Bloomberg and Reuters and has taught
seminars across the country. She has also hosted trader chats on EliteTrader,
eSignal, and FXStreet, sharing her expertise in both technical and fundamental