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Sunday August 14, 2005 - 22:28:48 GMT
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FX Briefing

FX Briefing 12 August 2005

- Strong stock market and favourable growth lift yen
- High energy prices revive doubts about the sustainability of US growth

Yen shakes off political burden

The dollar weakness continued this week. At first, the political uncertainty in Japan had prevented the yen from following in the euro’s footsteps. But once the privatization bill had been rejected and elections had been decided on, traders’ eyes were back on the economy and they seem to have liked what they saw. USD-JPY fell from JPY112 to 109.5 during the week, EURJPY from JPY138.30 to around 136.40. Unlike the yen, the euro did not gather steam until midweek. It tested the USD1.24 mark a few times but it took until early Thursday afternoon to break through it. EUR-USD is now quoted at around USD1.2460.

We already pointed out last week that there was a discrepancy between the rosier economic outlook in Japan on the one hand and the politically induced weakness of the yen on the other. Once early elections had been decided on (probably on 11 September), the trend turned. Late on Monday the stock market started rising and at the start of trading on Wednesday the Nikkei rose above 12,000. The last time it had been this high was in April 2004. Good GDP data for the second quarter and the more favourable economic assessments by the central bank and the government added to the friendly market environment.

The Japanese GDP rose by 0.3% quarter-on quarter in Q2. This was slightly lower than the consensus had expected (0.5%), but there was no real reason to be disappointed. The first quarter, which had been very strong anyway, was revised up another notch (+0.1 to 1.3%), so growth was only a little lower than expected. Moreover, the composition of growth was favourable: Private consumption rose by 0.7% following a strong increase in Q1 (1.2%); investment in plant and equipment grew by 2.2% after 2.7%. After three weak quarters, net exports made a positive contribution of 0.2 percentage points to growth. The biggest negative factor was the reduction in inventories, which took half a percentage point off the growth rate. But on the other hand the data underpinned the Bank of Japan’s assessment that inventory adjustments are more or less over.

The Japanese government confirmed its GDP growth forecast of 1.6% for the fiscal year 2005 (Q2/05 to Q1/06). For FY 2006 the government expects the economy to grow by up to 2%. In our opinion this forecast is too conservative, especially for this year. To reach 1.6%, the Japanese economy would have to grow at just 0.2% per quarter, which would be slower than in the second quarter. The forecasts for private consumption and investment in plant and equipment (revised up to 1.5% and 3.9% respectively for the fiscal year) would already be reached or exceeded if these demand components showed no growth at all over the next three quarters. Such sluggishness does not fit in with the widely-held opinion that the economy will continue to pick up in the second half of this year. It is thus likely that we are going to see a number of upward revisions to growth forecasts.

With respect to the US, the markets seem more inclined to act on bad news rather than good news. The hike in the fed funds rate to 3.5% had virtually no impact on the forex markets. There were no substantial changes to the Fed statement and most observers interpreted this as a continuation of the existing interest rate policy pattern. In our opinion, the Fed’s adjustments to the assessment of the economic development underline its somewhat hawkish tendency. It was interesting to note that – unlikely in the past months – some analysts actually saw the interest rate hikes as a negative factor for the dollar. Especially in the light of the steep oil price increase to around USD66 per barrel, concern about the future economic development seems to be once again outweighing the current favourable economic signals.

This tilt towards the negative also showed in the disappointment about the retail sales figures. Retail sales actually improved even further: They rose by 1.8% month-on-month in July. But observers did not like the fact that the increase in sales was mainly due to cars, and fuel, which has become more expensive. But there is no real reason to worry about consumption: Strong demand for cars is a sign of confidence in the future. Moreover, past price discounts did not just lead to sales being pulled forward but actually created additional demand. So when the special factors run out, this does not necessarily have to lead to a corresponding drop in sales in the coming months. And the fact that sales ex-autos and gasoline stagnated at the level of the previous month is not bad news either. First, June was a very strong month with an increase of 0.7%, so a weaker phase is not unusual. Second, the heat weighed on clothes sales. But nevertheless the markets are cautious.

Next week’s economic indicators are likely to show more clearly how robust US growth is in general. The New York Empire Manufacturing and the Philadelphia Fed Index are high, and the Philly Fed index might even rise further. Industrial production and capacity utilization are likely to be favourable too. But the positive trend in the manufacturing sector is more or less expected and therefore the dollar is unlikely to benefit much from this, especially if energy prices remain high, thus stoking fears about future growth.

Stephan Rieke +49 69 718-4114
Economics Department
+49 69 718-3642
[email protected]
Foreign Exchange Trading
[email protected]
Jörg Isselmann
+49 69 718-269
Matthias Grabbe / Klaus Näfken
+49 69 718-2688

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.
© 2005 BHF-BANK Aktiengesellschaft
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