â€˘ Japanese Yen: carry flows take it lower
â€˘ Euro: Higher as stops run at 1.4200
â€˘ Pound: EURGBP order done, pound recovers
â€˘ USD: Empire on tap
After floundering for most of the Asian session, the EURUSD burst higher during the European open running stops through the 1.4200 figure as traders trained their sights on a retest of all time highs. The trade in the pair now centers on two questions. First, will the Fed cut in October? Given the buoyant Retail Sales results on Friday, the answer is almost certainly no. In fact, Bloombergâ€™s John Berry makes a case that the Fed wonâ€™t lower rates again unless data shows that itâ€™s warranted. On the surface this dynamic appears dollar positive, yet the greenback continue to lose ground against the euro. Why?
The answer to that mystery may lie in the second question. Will ECB hike before year-end compressing the interest rate differential between the two currencies? As recently as last week few observers believed that was possible. Given the record high exchange rate of the EURUSD and the persistent pressure from EZ Finance Ministers, most analysts thought that the ECB would not dare to exacerbate the situation by raising rates.
However, despite a sharp drop off in exports to the US, EZ Industrial Production continues to fire on all engines with the latest reading surprising to the upside as it printed at 4.1% versus 2.3% expected. Clearly, for the time being, the regionâ€™s manufacturing sector has been able to adjust with internal demand appearing to have offset some of the slowdown from exports. With manufacturing readings, negating the risk-to-growth arguments of euro bears, attention now turns back to price pressures and this is where the story becomes interesting.
The latest rhetoric from ECB officials has been decidedly hawkish as they continue to stress the dangers of inflationary stresses in the system. To that end this weekâ€™s EZ CPI numbers may be key to the future direction in the pair. The data is expected to print above the 2.0% self imposed limit of the ECB. If the reading is even hotter than the forecast, the market will begin to seriously consider the possibility of another ECB rate hike in 2007 regardless of the exchange rate and that speculation may be foundation for euro current strength. We remain skeptical of such an outcome, but unless ECB officials begin to express serious concern regarding euroâ€™s loft levels, for now the path of least resistance in the currency is higher.