Saturday June 19, 2004 - 10:37:10 GMT
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INVESTICA Ltd - www.investica.co.uk
Deficits unsettle dollar
The dollar and Euro will find it difficult to secure a decisive near-term advantage, especially with volatility in expectations over US interest rates. The dollar has discounted a rate increase of 0.75% over the next three months and the US currency will be vulnerable if these expectations are not met. The dollar will continue to be unsettled by the weak underlying fundamentals, especially after the poor current account figures. At best, the deficits will slow the dollar's advance, at worst they could provoke a sharp retreat. The dollar will also be undermined if there is evidence of a slowdown in the US economy and security fears will also persist. Overall, the US currency is liable to depreciate on a medium-term view.
US data releases
Retail sales +1.2% May (-0.5% Apr)
Trade account -US$48.3bn Apr (-US$46.6bn Mar)
Current account -US$144.9bn Q104 (-127.0bn Q4 03)
Consumer prices +0.6% May (+0.2% Apr)
Producer prices +0.8% May (+0.5% Apr)
University of Michigan consumer confidence 95.2 Jun (89.9 May)
Jobless claims 336,000 week ending Jun 12 (351,000 prev)
The dollar and Euro have both struggled to make a decisive break over the past week, fluctuating in relatively narrow ranges. The Euro was unable to break resistance at EUR1.2150/US$ while the dollar was unable to sustain a push through 1.20, weakening back to 1.2140 on Friday after the poor current account figures.
Retail sales rose 1.2% in May after a 0.5% decline for the previous month, while the University of Michigan consumer confidence index rose to 95.2 in June from 89.9 in May. Industrial production rose by a strong 1.1% and the Philadelphia Fed index rose to 28.9 in June from 25.0 the previous month. The inflation figures have remained important, especially with uncertainty over interest rate trends. Headline consumer prices rose by 0.6% for May, but the core increase was held at 0.2%. Inflationary pressure is certainly building, but the increase is from a low base which will make judging the appropriate rate of monetary tightening more difficult for the Fed.
The comments from Fed officials have been slightly more benign over the past week with Fed Chairman Greenspan stating that rate rise were likely to be gradual while inflationary pressure should remain under control. These comments have eased immediate fears of an aggressive tightening and, although markets are still uncertain over the Fedís actions at the end of June, the comments from Greenspan will push expectations back towards a 0.25% rate increase. If the Fed sticks to 0.25% increases at the June and August meetings, there is scope for a dollar retreat.
The long-term structural dollar weaknesses have remained in focus. The April trade deficit rose to a record US$48.3bn due to a surprise decline in exports while the first-quarter current account deficit rose to a record US$144.9bn from US$127.0bn the previous quarter. The deficit will continue to leave the dollar dependent on substantial capital inflows.
The latest capital account figures were reasonably encouraging for the US currency with net inflows declining only slightly to US$76.2bn from US$80.7bn the previous month even though there was a decline in official bond inflows. There will, however, be disappointment that there was a second consecutive monthly outflow from the US stock market. It will be difficult for the dollar to avoid downward pressure at some point over the next few months on financing worries.
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