Why Dollar May Rise Ahead of Jackson Hole
EUR: Strength in Core, Weakness in Peripheral
GBP: Hotter Inflationary Pressure
NZD: Sharp Rebound in Q2 Spending
AUD: Misalignment Between Business Conditions and Confidence
CAD: Oil Prices Tick Higher
JPY: No Surprises from BoJ Minutes

Why Dollar May Rise Ahead of Jackson Hole

Better than expected U.S. economic data drove the U.S. dollar higher against all of the major currencies. For once, the dollar traded on the outlook for the U.S. economy and not on risk appetite. The rise in the greenback stripped the EUR/USD of all its gains and also pushed the AUD/USD and NZD/USD into negative territory. While we believe that the rebound in consumer spending and inflation is not enough to alter the central bank’s plans for monetary policy, it could trigger a tinge of optimism from Bernanke, which may be enough to help dollar hold onto its gains. At the last Federal Reserve meeting, the central bank made it clear that they are in wait and see mode and that everything hinged on the labor market and Europe. Since then, we have seen stronger job growth in the U.S. and have not received any bad news out of Europe. As a result, there’s no immediate need for QE3. However one month of improvements is also not enough to change the Federal Reserve’s mind about keeping monetary policy extremely easy for the next 2 to 3 years.

Nonetheless, these improvements could warrant some optimism from Bernanke or at bare minimum acknowledgement in his speech Jackson Hole. Originally many economists and traders believed that Jackson Hole would be the forum at which Bernanke laid the foundation for QE3 in September but if these improvements in U.S. data continue and Spanish bond yields remain below 7%, the Federal Reserve has very little reason to rush into another round easing. The possibility of less pessimism could lead in adjustments on QE3 trades, which would be positive for the greenback.

For the first time in four months, retail sales increased, rising 0.8% in the month of July. Spending in June was 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%. 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.

Consumer prices are scheduled for release on Wednesday along with the Empire State manufacturing survey, Treasury International Capital flow report and Industrial Production. CPI will most likely follow PPI higher and the TIC data should show continued demand for U.S. dollars and U.S. Treasuries. No major changes are expected in manufacturing activity.

EUR: Strength in Core, Weakness in Peripheral

The euro ended the day slightly lower against most of the major currencies despite stronger than expected GDP numbers out of Germany and France. The largest economy in the Eurozone expanded by 0.3% in the second quarter while France, the number two economy avoided contraction for the third quarter in a row. While some may consider this to be good news, zero growth for 4 out of the last 5 quarters is not necessarily positive for France or the euro in our book. Nonetheless the core of Europe is still holding up the peripheral because if we include the other Eurozone nations, the region contracted by 0.2% in the second quarter. Spain, Italy, Finland, Belgium and Portugal experienced slower growth with at least 6 countries falling into deeper recessions. Tough economic conditions will remain a problem for Europe for some time, which may be the reason why investors did not believe that the stability in European bond yields and rebound in European stocks means that Europe’s crisis is behind us. The decline in the ZEW survey indicates that investors grew less optimistic in the month of August about the current and future outlook for Germany. In fact the German ZEW survey of economic assessment dropped to its lowest level this year. There was one piece of unambiguously good news – Germany completed its largest debt sale in 2 years, which means they will now have enough money to repay the bonds held by the ECB that mature next week. This ensures that the country will avoid a default in the near term and gives them an additional EUR1 billion of wiggle room. No major Eurozone economic reports are scheduled for release on Wednesday.

GBP: Hotter Inflationary Pressure

Like the U.S., the U.K. experienced stronger inflationary pressures in the month of July. Consumer prices rose 0.1% last month compared to a forecast for a 0.1% decline. This was the first time in 3 months that consumer prices increased and the bump up caught many economists by surprise, particularly since annualized CPI growth accelerated to 2.6 from 2.4%. The cost of clothing, footwear and airfare increased as the unwinding of discounts in June ahead of the Summer Olympics led to a sharp rise in prices during the month of July. Thankfully the increase in prices is expected to be short-lived although we could see another month of higher prices in August before the sales and discounts return. Consumer prices are still expected to drop back down to 2% by the end of the year. Wednesday should be another interesting day for the British pound with the Bank of England meeting minutes and jobless claims scheduled for release. The total number of Britons filing for unemployment benefits is not expected to change much in July and the same is true for the unemployment rate which is expected to hold steady at a 10 month low of 8.1%. The Bank of England let monetary policy unchanged when they last met and so we will be listening closely for any updates on their outlook for the economy as well as how monetary policy officials cast their votes.

NZD: Sharp Rebound in Q2 Spending

The Canadian dollar held steady against the greenback while the Australian and New Zealand dollars gave up earlier gains to end the day in negative territory. It is a quiet week for Canada and the lack of economic data has helped the currency hold onto its gains. Stronger than expected consumer spending in New Zealand failed to lend much support to its currency. Retail sales rose 1.3% in the June quarter compared to a forecast for 0.7% growth. The increase was thanks in large part to record spending on cars and auto-parts since the series began in 1995. The rise in consumer consumption will bode well for Q2 GDP and most likely lead to upward revisions in the forecast by economists. The New Zealand dollar initially rallied on the report but eventually fell victim to broad U.S. dollar strength. Ultimately however this is good news for the country and its currency. In Australia on the other hand, there has been a misalignment between business conditions and business confidence. According to a report from the National Bank of Australia, business conditions weakened last month with the conditions gauge which measures hiring, sales and profits falling to -3 in July from -1 in June. Despite this deterioration, business confidence rebounded according to the confidence index, which rose to 4 from -3. Two months ago, confidence dropped to a 10 month low but stabilization in European bond yields, rebound in stocks and a rate cut from the Reserve Bank that month apparently helped to stabilize sentiment. Consumer confidence numbers from Australia are scheduled for release this evening.

JPY: No Surprises from BoJ Minutes

The Japanese Yen traded lower or held steady against all of the major currencies with USD/JPY rising to its highest level in more than 3 weeks.. The Bank of Japan released its July meeting’s minutes and signaled policy makers are considering expanding its stimulus and expectations of US retail sales rose. Overseas economies had shown moderate recovery but have yet emerged from its down stump. Japan’s exports shown signs of improvement. Public investment continued to increase due to reconstruction from last year’s earthquake. Employment improved due to the ratio of job offers to applicants increasing and unemployment rate had been slowly declining. US Governor Masaaki Shirakawa refrained from easing at the meeting as the overnight rate was extremely low but expanded asset purchases while slashing its loan facility by the same amount. A representative from the Ministry of Finance expressed that the Japanese economy was on the way to recovery at a moderate pace due to reconstruction demands; however, due to the uncertainty in the Eurozone there will be “sharp fluctuations in the financial markets.”