Monday June 28, 2004 - 21:30:28 GMT
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Weaker Japanese retail sales report no immediate cause for alarm
Daily Forex Report 06-28-04
· Greenspan’s favorite inflation indicator matches biggest gains in 14 years
· Weaker Japanese retail sales report no immediate cause for alarm
· Muted FX response to Iraq handover
This week is probably one of the most important weeks that we have seen in a while in the FX market. Although we have a very busy global economic calendar, the market will most likely tread carefully with extreme position adjustments before the FOMC rate decision on Wednesday. This morning, the dollar received a boost following stronger US personal income and spending data, as well as a higher personal consumption expenditures price index (PCE) deflator. Personal income increased 0.6%, while spending increased 1.0% during the month of May, which was the strongest increase in spending in 3 ½ years. More importantly, the PCE deflator, which is Greenspan’s preferred gauge of consumer price inflation matched its biggest gain in 14 years. Greenspan prefers the PCE deflator because in his opinion, CPI overstates inflation by failing to account for consumers’ tendency to shift spending habits by substituting lower priced goods for those that become too expensive. As a result, historically, the PCE deflator has on average trailed the CPI by 0.6%. The sharp increase in the PCE index may force the Fed to increase rates by a less than “measured” pace.
Friday’s weaker than expected US GDP report and Thursday’s durable goods orders report has essentially solidified a 25bp rate hike on Wednesday. With the market now pricing in 130bp of tightening by year-end, unless the Fed buffers a 25bp rate decision with substantially hawkish comments, bullish dollar sentiment could suffer. The Fed’s decision on Wednesday is particularly important not because the market is divided on the size of the rate hike, but because it is symbolic of the Fed’s belief that growth is strong enough to withstand and warrant a tightening. The first thing to watch for on Wednesday is whether the Fed keeps the word “measured” in their FOMC statement. Should the word remain in the statement, the second task is to look for warnings about inflation and the possibility that the Fed could become more aggressive if the pace of inflation gains become concerning. Given the recent increase in CPI, PPI and today’s PCE deflator, the FOMC statement should encompass both of the points mentioned above. Tomorrow, we are expecting the Conference Board’s consumer confidence survey. The improvement in the labor market should bring about the fourth consecutive increase in consumer confidence. Meanwhile, an earlier than expect handover of Iraq to the interim government has resulted in a muted response in the currency markets.
More consolidation in the British pound as we begin a week that has a number of important UK economic releases. We are expecting the Gfk consumer confidence survey, M4 money supply and consumer credit tomorrow. Later in the week, we are expecting the Q1 GDP report, private consumption, the current account balance, CBI Distributive trades report and manufacturing sector PMI. With last week’s more dovish MPC comments and the increased possibility of hawkish comments in Wednesday’s FOMC statement following today’s US economic releases could offset any optimistic UK economic data. The central banks that have been on a tightening spree for a number of months have received an extensive amount of attention to date. Unless the Fed is extremely dovish, we expect to see the market shift its focus to central banks that are moving away from accommodative monetary policies going forward.
After Friday’s 0.2% decline in annualized Tokyo CPI for June and a 0.5% decline in national CPI for the month of May, Japan disappointed once again with a weaker than expected retail sales report. According to the government’s report, increased travel as a result of the Golden Week holidays and poor weather contributed to bulk of the 2.5% retrenchment in retail sales. The data set has been zero to negative for the past 3 months. Since 2002, annualized retail sales saw gains in only 3 out of 29 months. However, retail sales has had a weak correlation with household spending, which has been increasing on a monthly basis since November 2003. In April, we saw a 4.6% gain in household spending. This disparity suggests that Japanese consumers are spending more on travel and other services. The most important release from Japan this week is the quarterly Tankan survey expected on July 1st (Tokyo time). The report is expected to show strong corporate sentiment with an optimistic outlook for capital expenditures and profit projections despite higher oil prices.
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