Dollar Drops as Investors Wonder if Fed Should Taper

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Weaker than expected U.S. economic data drove the dollar lower against all of the major currencies. On Thursday we said uncertainty about the outlook for the U.S. economy has led to the volatility in the foreign exchange market. Unfortunately today’s economic reports only adds to the question of whether the Fed is making the right move by planning to taper asset purchases this year.

Consumer confidence in the U.S. retreated from a 6 year high in August with the University of Michigan Consumer Sentiment index dropping to 80 from 85.1. The details of the report showed less optimism about current conditions and the future outlook for the U.S. economy. Its no surprise that sluggish job growth, the threat of a reduction in stimulus and stocks declining in the month of August has made Americans less optimistic. Non-farm productivity also rose 0.9% in the second quarter after dropping 1.7% in Q1. Originally, productivity in the first quarter was reported to have grown by 0.5% but now we have learned that it declined, leaving the U.S. economy with a net loss in productivity in the first half of the year. At the same time, unit labor costs increased in the second quarter, which means workers are becoming less productive and yet the cost of labor has risen, an undesirable development for the corporate sector. Housing starts and building permits rebounded in the month of July but the increase in both were less than expected. Starts rose 5.9% compared to a 7.7% forecast while permits rose 2.7% vs. a 2.9% forecast.

Meanwhile the New Zealand dollar is underperforming the Australian dollar today after another earthquake temporarily halted trading on the exchange last night. While the epicenter was in the small town of Marlborough, tremors were felt in the capital of Wellington. Thankfully the damage was minor and similar to the July 21st quake that left the NZD unscathed.

After being off this week for the Obon Holiday, Japanese traders will return to the markets Sunday night / Monday. USD/JPY rallied at the front of the week but the move has stalled since. It will be interesting to see if Japanese investors will jump back into the currency pair now that U.S. 10 year yields are at 2.78%. The coming week will be an important one with the FOMC Minutes scheduled for release on Wednesday and Federal Reserve officials gathering in Jackson Hole for the annual monetary policy symposium on Thursday and Friday. While any comments made from policymakers at the meeting will be interesting, Fed Chairman Ben Bernanke won’t be attending. Two months ago, he dismissed the significance of the meeting by saying, “There’s a perception that the Jackson Hole conference is a Federal Reserve system-wide conference; it’s not.” So while can hope for monetary policy clarity, we don’t have our hopes up.

Kathy Lien
Managing Director

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