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Forex Blog - FX Briefing - Markets’ expectations of US interest rate hikes recede slightly

FX Briefing  20 June 2008

Highlights

  • FOMC could see risks as being fairly balanced
  • EMU climate indicators likely to be weaker, German inflation higher

Markets’ expectations of US interest rate hikes recede slightly

Forex markets were calm for the most part this week. The dollar was down somewhat compared to the previous week, mainly because the markets’ expectations of relatively aggressive interest rate hikes in the US receded. For the last few days, EUR-USD was mostly in the region of 1.55, while USD-JPY hovered around 108. The pound Sterling was more volatile: in an open letter to the Chancellor of the Exchequer, BoE governor Mervyn King signalled that the BoE had no firm intention of raising interest rates, even though inflation could accelerate to over 4%. According to Mr King, this was because of the economic slowdown. But then UK retail sales unexpectedly showed a record rise in May. EURGBP remained at around 0.79, about the same as at the end of last week.

After the Fed, and Ben Bernanke in particular, had warned of inflation risks, bond markets had priced in a relatively aggressive rate tightening cycle. The fed funds future had temporarily indicated that the first interest rate rise was expected as early as August and that two or three further hikes would follow by the end of the year. At second glance, however, the notion of a complete turnaround in monetary policy looked less probable. Although the warnings issued by the US central bank had been fairly sharp, they had not contained any specific indications of monetary policy reactions. An article in the Wall Street Journal had quite a big impact. The gist of it was: as long as the inflation outlook does not deteriorate markedly, the Fed sees no necessity at present, and probably not in the next few months either, to raise interest rates. A rate rise in June is practically out of the question, and a hike in August is by no means a foregone conclusion either.

This view of US monetary policy was underlined by US banks’ quarterly results. Further asset writedowns, additional capital needs and weakness in operative business show that the crisis in the US financial system is far from over. The latest economic indicators do not suggest a particularly aggressive monetary policy approach either: industrial production fell again in May; thus it looks as though the decline for the whole of the second quarter could be around 1%; it could even be worse than that, as the NY Empire Manufacturing index and the Philly Fed index have both fallen further into negative territory in June.

Next week could turn out to be more eventful than this one: apart from the FOMC meeting on Tuesday and Wednesday, there are important economic indicators on the agenda both in the US and in the eurozone. As far as the FOMC meeting is concerned, we share the Wall Street Journal’s opinion: there is not likely to be a change in interest rates at the moment. However, inflation risks will probably be emphasized more strongly. At the end of April, the Open Market Committee had refrained from evaluating the risks in detail. In our view, the Fed will probably weigh up growth risks on the one side and inflation risks on the other.

US economic indicators are likely to be mixed. Consumer confidence will probably have fallen further in June; new home sales are expected to have declined again too. Existing home sales, however, are likely to have recovered, as pending sales did. The rise in vehicle and aircraft orders should have boosted the durable goods orders’ headline figure, whereas durable goods orders ex transportation might have suffered a setback. Even if non-defense capital goods orders declined in May, the figures for the whole quarter would still be quite strong.

In the eurozone, the results of the major national and European business and consumer sentiment polls, including the ifo business climate index, the GfK consumer climate index, are due to be released, as well as national indicators from Belgium, France and Italy, the PMI manufacturing indices and, on Friday, EU Commission data. We expect most of these indicators to have gone down slightly in June. The ifo business climate, which is particularly relevant, could have dropped from 103.5 to 103. The ZEW index indicated that expectations in particular could have deteriorated due to the surge in energy and food prices and tighter financing conditions. The preliminary German consumer prices for June are due to be published on Thursday and Friday. Soaring energy prices could have pushed the inflation rate up to 3.2%.

Stephan Rieke +49 69 718-4114

Economics Department
+49 69 718-3642
volkswirtschaft@bhf-bank.com
Foreign Exchange Trading
devisenhandel@bhf-bank.com
Jörg Isselmann
+49 69 718-2695
Matthias Grabbe / Klaus Näfken
+49 69 718-2688

 

<i>This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHF-BANK Group") solely for the information of its clients. The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities. This publication must not be distributed in the United States.

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All rights reserved. Please mention source when quoting from it.

 

 

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