Dollar Rips Higher on Hotter US Data

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Currencies traded higher this morning in anticipation of U.S. economic data and when the numbers came out stronger than expected, the dollar rallied against Japanese Yen and other major currencies. However the reaction in the FX market was small in spite of the large upside surprise because investors realize that hotter inflation and stronger consumer spending won’t affect the Federal Reserve’s decision about QE3. There is no question that better data reduces the pressure on the Fed to ease but the central bank’s decision on QE3 never hinged exclusively on the level of inflation or spending. The biggest challenges for the central bank have and will continue to be the labor market and Europe. Nonetheless, this is good news for the U.S. economy and the U.S. dollar because it signals that recovery may finally be gaining momentum.

After falling for three consecutive months, retail sales rose 0.8% in the month of July. June numbers were revised down from -0.5 to -0.7% but the revision did not offset the upside surprise. Excluding autos and gas, retail sales rose 0.9% last month as Americans spent more on furniture, building materials, electronics and online purchases. The amount of money spent on food and gas stations also increased but not by as much as spending on home improvement – which is a healthier outcome for the U.S. economy. Producer prices rose 0.3% in July, up from 0.1% in June. Ex food and energy also increased by 0.4%. As we saw in the U.K. earlier this today, inflationary pressures around the world are beginning to rise but the increase is happening from a low base which means that inflation remains muted and poses no immediate threat to monetary policy plans.

Meanwhile across the Atlantic, despite hotter GDP numbers from Germany and France, the Eurozone economy contracted in the second quarter. Negative growth in Spain, Italy, Finland, Belgium and Portugal caused the region to contract by 0.2%. At least 6 Eurozone nations experienced a deeper recession, highlighting the tough economic conditions in the region and the divergence in growth between different nations. According to the ZEW survey, investors grew more pessimistic about the current and future outlook, showing that they were unfazed by the recent decline in European bond yields and the promises by policymakers to support the region.

Kathy Lien
Managing Director

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