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Forex: Dollar Slides as Weak Chicago PMI and Gasoline Shortages Counter Release of Oil Reserves

DailyFX Fundamentals 08-31-05

By Kathy Lien, Chief Strategist of www.fxcm.com and www.dailyfx.com

- Dollar Slides as Weak Chicago PMI and Gasoline Shortages Counter Release of Oil Reserves
- Katrina Could Leave Hundreds of Thousands Jobless in September
- Global Consumer Consumption Beginning to Contract – Starting with Germany, Italy and Japan

US Dollar

The dollar sold off over 150 pips today against the euro. For our readers, this move should come as no surprise since as early as Monday we were talking about how irrational the market was acting, rallying the dollar when the devastation of Hurricane Katrina was far from being over and the damage was yet to be properly assessed. Yesterday, we chimed in again and said that even though the dollar remained unchanged and the Conference Board survey was stronger, we doubted that the improvement in confidence was a real reflection of how Americans feel now. With at least 8 refineries (representing 9% of US refinery capacity) in the region still remaining shut and even though President Bush announced plans to release oil from the nation’s Strategic Reserves, we doubt that it would help much in such dire situations. Florida Governor Bush has already warned of possible gas shortages in the coming days in Florida because of Katrina. Airliners have cancelled flights and are rationing fuel, especially since hubs such as Washington’s Dulles Airport and Atlanta’s Hartsfield airport rely primarily on jet fuel supplies from Louisiana and Memphis. With most of Louisiana, Alabama and Mississippi expected to be at a near stand-still in terms of economic activity for at least a week, Katrina could shave a minimum of one percent off of Q3 GDP. As if things weren’t bad enough already, we had some extremely disappointing data release this morning. The preliminary Q2 GDP report indicated that the economy grew by only 3.3% compared to the market’s forecast for 3.4% growth. The biggest disappointment though came in the Chicago PMI report, which slipped from 63.5 to 49.2. We had expected a slide, but certainly did not anticipate that the slide would be so deep that it would indicate that the Chicago region’s manufacturing activity actually contracted during the month of August. This is exceptionally negative ahead of the release of the national ISM report tomorrow. With so many uncertainties ahead and clear signs of weakness, we doubt that the Federal Reserve would risk a sharp contraction in growth just to combat inflation – especially if this inflationary pressure could cause deflation in other sectors of the economy. We also think that even if this Friday’s non-farm payrolls report comes out strong, it may not do much to help the dollar because at this point, the one million people minimum evacuated out of the region could very well now be jobless. If this is really true, the September non-farm payrolls report could be horrendous even if the August report is good.

Euro

The Euro traded higher today as some traders realize that comparatively speaking, the future of US growth looks bleaker than the future of Eurozone growth at this moment. Spending data out of Germany was weak, but the unemployment reports from both France and Germany showed signs of improvement. However, before getting too excited, even though the number of unemployed individuals decreased in Germany, the private sector did not add any jobs and instead, the job growth came primarily from the public sector. Q2 GDP was unrevised at 0.3%, but first quarter GDP was revised downwards from 0.5% to 0.4%. As such, we do not expect any surprises from the ECB at the meeting as well as at the following press conference. The central bank will probably continue to keep an eye on inflation, monetary growth and express their belief that economic activity should continue to improve over the next few months.

British Pound

Consumer confidence drifted lower as per today’s GfK optimism index leading some to speculate that further interest rate cut considerations may be in the works for the U.K. economy. Expected to dip to a reading of negative one, the report saw optimism decline to a negative 4 reading, suggestive that confidence may be shakier than previously expected. This may raise a few eyebrows as policy officials were banking on the recent interest rate cut to work its way into the economy, ultimately bolstering consumer interest and spending. However, consumers remain reluctant to consume given the fact that housing valuations are stunted. Additionally, overall domestic output continues to be staid to slightly bearish and crude oil prices are continually rising higher, posing further taxes on consumer and business spending. This ultimately makes the upcoming decision increasingly difficult for the Bank of England, as consumers may need further cuts to be coaxed into consuming. However, with inflation relatively high in the region, policy makers may not be willing to cast aside their hawkish beliefs for renewed domestic demand. This poses a great setup for the next meeting as the market is relatively convinced Mervyn and his band will opt for inflationary prevention rather than positive consumption.

Japanese Yen

Pounded by short sellers earlier on, the Japanese yen fell for the fourth day as concerns over the effects of oil on the country’s productivity arose. However, the currency regained some footing later on and looks to continue the ranging environment that has been taking place for the past week. Although relatively brief, the earlier weakness does seem to reflect some hesitance by the market, especially after this morning’s industrial production print. Rising 1.6 percent in the previous month, output actually fell 1.1 percent in July. Although not at all surprising, as previous figures had led up to the notion, it confirms the utterly slow pace that the Japanese economy is taking in turning the corner. It also looks as if the domestic consumer isn’t willing to contribute their hard earned yen, as taxes are now becoming an increasingly difficult consideration, especially with the repeal of the previously lofty tax rebate and higher pension contributions. Worker earnings actually rose for the fourth month as demand for labor increased. Adding to woes, were suggestions by Prime Minister Koizumi that the national sales tax looks likely to increase, he actually said that it is “inevitable”. Given all of these factors, including an upcoming political election and waning interest in a tepid equities market, focus may ultimately shift to basic fundamentals, leading interest away from the currency. As a result, until proactive growth reform can be implemented and accommodations made to the bolster consumer consumption, economic expansion may be a foregone thought.

 

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