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Monday November 8, 2004 - 22:22:11 GMT -

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Forex: ECB President Trichet Warns That “Brutal” Moves in Euro Unwelcome

Daily Forex Fundamentals 11-08-04

By Kathy Lien, Chief Strategist of

· ECB President Trichet Warns That “Brutal” Moves in Euro Unwelcome
· UK Producer Prices (Output) Surge By Fastest Pace In Nine Years
· Rumors Of Chinese Selling and Yuan Revaluation Weighs On Dollar


Back in January and February of this year, comments from Eurozone officials have marked the top in the euro. On January 12th, ECB President Trichet said that "brutal moves" in euro are "not welcome," which led to a 550 pip sell-off in the currency pair over the course of 5 trading sessions. On February 18th, collective criticism against the euro’s rally from French President Chirac, spokesman Jean-Francois Cope and EU Solbes saw the EURUSD reverse at 1.2930. Fast forward to this morning, ECB President Trichet used the BIS meeting of G10 central bankers as the stage for him to express concern about the EURUSD rally. He said that recent EURUSD moves have been “brutal” and that “brutal moves are not welcome from the standpoint of the ECB.” This sounds very similar to the comments that he made in January. However, despite Trichet’s harsh words, the sell-off in the EURUSD has been fairly shallow. Whether or not this is a top in the euro remains to be seen. The inconsistency between the comments made by German Chancellor Schroeder, who said on Friday that the euro’s rally is “not yet dramatic” and Trichet’s comments today may explain some of the hesitance of traders to sell euros aggressively. The injection of verbal intervention by ECB officials could create more 2-way price action in the Euro. There is a significant risk of a retracement in the euro if the Fed raises rates on Wednesday and issues a more hawkish statement.


Traders should be weary of getting prematurely excited about today’s dollar rally. A retracement is only natural after the significant sell-off that we saw on Friday. The real question that traders should be asking is that if the dollar could not rally following strong labor market data, then what can the dollar rally on? It appears that the market has shifted focus away from jobs to more structural concerns. These concerns are quite valid given the track record of the current administration. The dollar has sold off based upon three primary fears – 1) continued widening of the current account and fiscal deficit, 2) heightened geopolitical risks, and 3) benign neglect of the dollar. However the almighty Fed could very well have what it takes to spur at least a modest dollar rally. With strong payrolls data and another sell-off in oil prices, a rate hike on Wednesday is pretty much guaranteed. Therefore what the dollar needs is an exceptionally hawkish FOMC statement that would solidify expectations for a December rate hike. The soft patch in the US recovery is gradually becoming a concern of the past, which should bolster the optimism of FOMC members.


The British pound gained some steam in the European trading session on a sharply higher PPI output report. Bolstering expectations for a rate hike was the fastest rise in producer prices since 1995. Prices rose 3.5% from 3.1% on a non-seasonally adjusted basis, which beat the market’s forecast for a 3.2% rise. On a seasonally adjusted basis, the rise was also impressive, from 0.3% to 0.7%. Higher steel, iron and crude oil prices all contributed to the rising output costs. This is certainly positive for the pound as it raises the expectations of the few remaining hawks in the market for tighter monetary policy by the Bank of England. We doubt that this will be the case, but it could be positive for Wednesday’s Quarterly Inflation report published by Bank of England. The report is expected to shed more light on the central bank’s outlook for inflation and growth.


The dollar continues to sell-off against the Japanese yen. An article in this weekend’s Financial Times about possible dollar selling by Asian central banks in preparation for a Yuan revaluation has kept USDJPY pressured. According to the article, China may be considering moving to a basket arrangement for currencies, instead of only pegging itself to the dollar. If this is truly the case, it would be significantly positive for the euro and the yen, as China would be expected increase their euro and yen denominated reserve holdings. Their reserves are currently held mostly in dollars, yet they also do a significant amount of trade with the EU and Japan. However as much as the market likes to focus on Chinese revaluation, the actual process would take an extended period of time. The People’s Bank of China deputy governor Guo confirmed this today when he said that the central bank has not set a “timetable” to revalue the yuan at this time.


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