Wednesday April 20, 2005 - 10:05:52 GMT
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INVESTICA Ltd - www.investica.co.uk
Dollar vulnerable to stagflation fears
The dollar weakened in New York to a low of 1.3070 against the Euro. There will be some relief that US equity markets have stabilised for now, but levels of risk aversion are likely to remain relatively high. Any sustained increase in global risk aversion will still tend to weaken the US currency on fears of greater financing difficulties.
The headline US producer price increase was slightly higher than expected at 0.7% for March, but the underlying increase was below expectations at 0.1%. The data will tend to ease interest rate expectations slightly, although the position is still finely balanced and the consumer inflation report will be significant. Fed Governor Poole stated that the longer-term inflation outlook was sound, but there will still be short-term concerns over inflation trends.
The housing data was much weaker than expected with a drop of 17.6% for March which will reinforce growth concerns even if the downturn may have been related in part to bad weather. Fed Governor Yellen stated that the economy might have hit a soft patch in March which will add to recent unease over growth trends. The dollar is likely to be vulnerable if there are sustained fears over growth even if there is an increase in inflation. The decline in US Treasury yields has eroded the yield spread over German bunds with the gap below 75 basis points on Tuesday and the narrowing of spreads will reduce the potential for dollar buying.
The comments from ECB Chairman Trichet that inflation expectations were stable did not have a significant impact on the Euro. The currency will still be eroded by weak growth following another batch of weak data on Tuesday. Political concerns will also persist ahead of the May French referendum with the combination discouraging Euro buying.
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