Euro, British Pound Pressured as Stock Losses Boost Demand for US Dollar (Euro Open)

The Euro tested below 1.39 while the British Pound sank to as low as 1.6063 in overnight trading as stocks fell for the sixth consecutive day on Asian exchanges, offering support to the safety-linked US Dollar. The economic calendar could add to selling pressure as Euro Zone GDP is confirmed to have shed a record 2.5% in the first quarter.

[U][B]Key Overnight Developments[/B][/U]

[B]• NIESR: UK Economy Shrank at Slowest Pace in a Year in the Second Quarter
• Japan’s Current Account Surplus Swells as Imports Tumble 43.9%
• Australian Consumer Confidence Rose to Highest in 19 Months, Says Westpac
• Japanese Merchant Sentiment Rises to Highest in Nearly 3 Years[/B]

[U][B]Critical Levels[/B][/U]

The [B]Euro[/B] tested as low as 1.3882 while the [B]British Pound[/B] sank to touch 1.6063 to the [B]US Dollar[/B] in overnight trading. The greenback was well-supported as stocks fell for a sixth consecutive day across Asian exchanges, pushing the MSCI Asia Pacific Index down nearly 2% ahead of the opening bell in Europe and boosting demand for the safety-linked USD.

[B]Related Articles:[/B] US Dollar to Rise Against Forex Majors on Demand for Safety

[U][B]Asia Session Highlights[/B][/U]

The UK economy shrank at the slowest pace in a year in the second quarter, losing -0.4% in the three months to June according to the [B]NIESR Gross Domestic Product Estimate[/B]. In a statement accompanying the release, NIESR said that they estimate “the U.K. economy is now stagnating rather than continuing to contract at a sharp pace,” expecting economic growth to remain elusive until the middle of next year. The comments mirror those of Bank of England chief Mervyn King, who has said the economic recovery may become “a long, hard slog”. Overnight index swaps suggest traders are pricing in virtually no chance that the BOE will change interest rates from the record low 0.5% this week, although 12-month yield forecasts have been trimmed by 25 basis points just over the past week. An expansion of the current 125 billion pound quantitative easing program is also unlikely for the time being considering signs of stabilization in leading economic indicators that have emerged over recent weeks. Indeed, [B]Nationwide Consumer Confidence[/B] rose to 58 in June, the highest reading since October 2008, with only 23% survey respondents expecting the economy will materially deteriorate over the next six months.

Japan’s [B]Current Account[/B] surplus grew to 1.3 trillion yen in May from 0.6 trillion in the previous month. Economists had forecast a 1.5 trillion yen result ahead of the release. The improvement in the headline figure is far from encouraging, however, considering it came as the drop in imports (-43.9%) outpaced the decline in exports (-42.2%) over the 12 months from May 2008. The data echoes a similar result in the narrower Merchandise Trade Balance figure, painting a grim picture of the spending climate in the world’s second largest economy. Indeed, retail sales came to a standstill during the same period. Looking ahead, the headline current account figure may continue to grow as companies acclimate to lower global demand. Minutes from the last Bank of Japan policy meeting revealed policymakers believe exports will “level out…mainly due to progress in adjustments in local inventories” while consumption (including that of imported goods) remains weak as the “employment and income situation becomes increasingly severe.” Indeed, thejobless rate rose to the highest in over 5 years in May as the economy shed 440k jobs.

Separately, the forward-looking component of Japan’s [B]Eco Watchers Survey[/B] surged to 45.6 in June from 43.3 in the previous month, the highest since September 2007. The metric polls barbers, taxi drivers, and other retail service providers to gauge underlying trends in consumer confidence. Merchant sentiment was likely boosted by the government’s record 2 trillion yen ($20 billion) fiscal boost. It remains to be seen if the improvement is sustainable after this effort is exhausted.

Australia’s [B]Westpac Consumer Confidence[/B] added 9.3% in July, the second consecutive month of gains, rising to the highest level in 19 months. In annual terms, confidence has added 38.5%. We had speculated the release would produce an uptick in our Australian Dollar Weekly Forecast, noting that sentiment was likely to be boosted as a hefty A$12 billion in fiscal stimulus filters into the broad economy. Westpac chief economist Bill Evans seems to agree, saying the result is “unquestionably a stunning result” that must owe to “the huge financial handouts introduced by the government.” The Australian Dollar barely budged as the data crossed the wires, reflecting a perception that the big question going forward will be whether the economy can maintain momentum once the flow of government cash dries up. Yesterday, the central bank kept interest rates unchanged but said that there is still “scope for further easing of monetary policy”, identifying credit conditions and the effects of economic weakness on asset quality as “a challenge”.

[U][B]Euro Session: What to Expect[/B][/U]

The final revision of [B]Euro Zone Gross Domestic Product[/B] is set confirm that the currency bloc’s economy shrank -2.5% in the first quarter, the most since the creation of the single currency. A survey of economists conducted by Bloomberg calls for the GDP to shrink -4.3% this year and European Central Bank President Jean-Claude Trichet has said growth will begin to recover by mid-2010. Although the ECB has offered an unprecedented 442 billion euro in 12-month bank loans as a means of de-facto monetary easing and will also move forward with a 60 billion bond-buying scheme, these measures may prove inadequate as there is no guarantee that banks will lend out the funds raised from action and thereby stimulate the broad economy. Indeed, banks may chose to hang on to the cash as a buffer against $1.1 trillion in as yet unrealized losses linked to the subprime mess, per the IMF, as well as the fallout from looming defaults and/or devaluations among the EU’s recently-minted central European members. Trichet has conceded that current interest rates may not be at their “lowest” level, opening the door to further stimulus in the months to come.

German [B]Industrial Production[/B] is expected to see the annual rate of decline ease to -20.0%, rebounding from a record low at -21.6% recorded in the previous month. As with other industrial economies, smaller negative numbers in the headline figure are to be expected in the months ahead as firms adjust inventories to lower levels of global demand. That said, overall output growth is likely to remain weak as overseas sales remain lackluster with most of the world still mired in deep recession. Indeed, the International Monetary Fund reckons world trade volumes will shrink -11% this year and rebound by a meager 0.6% in 2010.

In Switzerland, the seasonally adjusted [B]Unemployment Rate[/B] is set to rise to 3.6%, the highest in over three years. Job losses will weigh on disposable incomes and discourage spending, weighing on overall economic growth. Indeed, the UBS Swiss Consumption Indicator fell to the lowest level in 5 years in May. The onset of deflation may further complicate matters: CPI shrank -1.0% in June, the most since 1959; the economy may slip into a long-term period of stagnation if expectations of lower prices are to become entrenched, encouraging consumers and businesses to perpetually wait for the best possible bargain and hold off on spending and investment.

[I]To reach Ilya regarding this article or subscribe to his email distribution list, please contact him at <[email protected]>[/I]