From a late November peak at $1.5142 to last Monday’s trough at $1.1876, the euro has shed 21.6% against the dollar. In its quarterly review published today the BIS identifies a currency crisis as a 22% collapse. It’s tempting to become blinded by a jump in European industrial output data today as to why the euro has come out jumping this week. However, if you care to scratch a bit deeper beyond the headlines from the BIS you’ll understand better why the euro’s rebound may have some legs. The subtle difference between the BIS character of an all-out economic meltdown and the perception that the market places on euro currency weakness is not what lays ahead, but what has already passed. Critical to the BIS report is the fact that a currency crisis is typically associated with a permanent loss of output of about 6% of GDP. The second event tends to be the waterfall of a currency collapse, typically by order of magnitude of 22%.
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Euro –As investors look back in amazement at the pace of gains apparent in industrial output and export orders from the Eurozone, it is becoming a less convincing argument that the Eurozone’s economic collapse has precipitated a currency crisis. Simply put, it has not. Investors believed that fiscal pressure looking forward would precipitate such a collapse in output, yet the evidence to date suggests that the core of the economy is doing well for two reasons. The economic recovery around the world is supportive of demand. The decline in the euro is improving the appeal of European output while, domestically speaking, consumers are looking inward at the relative cost and conclude that home-grown goods are far more appealing than imports whose prices have jumped as the euro lost its purchasing power.
Boosting the case today, industrial production data for April was far stronger than expected rising by 0.8% over the prior month for a 9.5% annual pace of gain. Moreover, data for March was also revised sharply higher. Over the weekend ECB member Ewald Nowotny told Japan’s Nikkei newspaper that the central bank would maintain its decision to buy government bonds until the markets calmed down. The euro has managed to rally a cent and a half against the dollar this morning as investors warm once again to global growth prospects.
U.S. Dollar –The dollar appears to be taking a bashing from all sides this morning as growth prospects unwind more of the demand evident so far this year for the dollar as a safe haven. Evidence of that was plentiful on Friday after a slump in retail sales data stoked fears that the economy might slow. Demand for the dollar awoke until a second report showed that the consumer remained sharp. A University of Michigan consumer sentiment index rose to 75.5 making for the rosiest reading since January 2008 and dispelling fears that one weak sales reading meant a global downturn. The dollar index has shed 1.3% today as investors take chunks out of the global slowdown argument.
British pound – The pound has rallied by two and a half cents against the dollar to stand at $1.4780 after several bullish news items. A weekend article in the Sunday Times written by Bank of England member Andrew Sentance reads with a somewhat hawkish tone. His perception raises the status of the debate over how much longer stimulus should be maintained. Sentance notes that there appears to be upward pressure on the inflation expectations of the public and also points out that there may be less spare capacity across the economy than earlier thought.
Better economic growth is also a factor for the worrisome budgetary situation in the country. The Office for Budgetary Responsibility issued its first report today since its inception under the Conservative-Liberal coalition. The report suggests that within five years the deficit stands a 50% chance of coming in at less than 4% of GDP. Compared to today’s £155 billion deficit, by 2015 the OBR forecasts a deficit of £71 billion. The news has cheered the market and investors have also latched onto an increase in the growth rate, predicted to be 2.6% next year. The new government’s policy of attacking the deficit appears to be providing political capital for the pound as more bears appear to be giving up on a pummeling for the pound.
Japanese yen –The yen is suffering at the hands of a rejuvenation of risk appetite in early trading this week. Last week the MSCI Asia Pacific index added 1.9% as equity markets rebounded. On Monday the index added 1.5%. The yen lost out to almost all of its major trading counterparties, and fell to ¥112.69 per euro and ¥91.86 per dollar. The yen also lost out to the British pound, which surged to ¥135.68.
Canadian dollar – The twin risk dollars from Canada and Australia are enjoying fine conditions to start the week. Commodity prices are rallying both on account of weakness in the U.S. dollar and hopes for ongoing global growth. The Canadian dollar reached 97.44 U.S. cents earlier – its highest price since May 18.
Aussie dollar – The Australian dollar managed an identical feat as investors propelled it to as high as 86.44 U.S. cents this morning.
Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers
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