Japan’s economy still in a ‘very severe’ state
Japan released its preliminary 1Q GDP figures earlier this week which confirmed the nation’s economy fell back into recession. The data showed a quarterly contraction of -0.9% which was worse than the expected -0.5% and the prior quarter was revised significantly lower to -0.8% from -0.3%. Prior to the release of the data, Bank of Japan Governor Masaaki Shirakawa said that the nation’s economy has been in a “very severe” state since the March 11 earthquake. This comes as no surprise as economic activity fell sharply following the devastating earthquake as evidenced by negative growth and declining consumer confidence. Japan’s April trade balance is scheduled for release on Wednesday and is expected to show the country’s first trade deficit in two years due to a significant drop in exports and small advance in imports. Also due next week is April retail sales which are likely to fall further as recent confidence indicators have continued to deteriorate.
As the world’s third largest economy, the downturn in Japan is an impediment to the global recovery. It will likely be some time before the economy can turn around and begin to claw its way out of the recession and as such we would expect the yen to come under pressure. Safe haven flows have benefited the yen, however acknowledgement by policymakers of the severe state of the economy and expectations of additional extraordinary measures to stabilize the economic conditions are likely to limit further yen gains. In USD/JPY, the 80.00 level is the key pivot to the downside which is around the 61.8% retracement of the rally from the March lows to April highs in addition to being a key psychological level. The key levels to the upside are the top of the daily ichimoku cloud and 200-day SMA which can be found in the 82.55/75 area. A sustained break above here may see towards the 84.50 pivot area ahead of the 85.50 prior highs while a drop through the 80 figure may see a further decline.
The Loonie may see weakness ahead
Earlier today the CAD weakened on the back of the Canadian CPI and retail sales figures. April Consumer Price Index remained unchanged from last month at +3.3% y/y, however this was below economists’ expectations of a rise to +3.4%. Additionally, the March retail sales figures came in at 0.0% m/m which was much weaker than the consensus of +0.9% and +0.5% in February. Taken together, this eliminates any chance of a BoC rate hike on May 31st and presumably for July 19th decision as well. Furthermore, provided that inflation expectations continue to stay well anchored, it is unlikely that headline inflation will be able to persist above the target range for much longer.
Given that the world economy is beginning to show signs of slowing and the Fed is about to end QE2, the fundamental outlook for higher commodity prices has abated. This suggests the impact of higher energy on headline inflation and its indirect pass-through effects on core inflation may begin to deteriorate in the second half of 2011. Consequently, it seems the BoC’s decision to keep its policy rate unchanged at 1.00% has been correct. As such, we believe the market will begin to price in the realization that rates aren’t going anywhere anytime soon and this could weigh on the loonie going forward.
Technically, the USD/CAD has been confined in a downward sloping channel since September of 2010 and RSI has confirmed the move lower throughout. Additionally, the 100-day sma has roughly coincided with the top of the trend channel and earlier today the pair tested both of these key technical levels (which is the second time over the past week) and has so far been rebuffed. This 0.9765/75 level also encompasses the 61.8% Fibonacci retracement of the move lower from the middle of March to the beginning of May. Should commodities continue to remain under pressure, especially crude oil, this would be bullish for USD/CAD and we would expect the aforementioned resistance level to give way to an eventual test of the 200-day sma and March 15th high which are both just below parity.
Key data and events to watch next week
United States: Monday – Apr. Chicago Fed Nat Activity Index Tuesday – Fed’s Plosser Speaks, Apr. New Home Sales, May Richmond Fed Manufacturing Index Wednesday – Apr. Durable Goods Orders, Mar. House Price Index, Fed's Kocherlakota Speaks Thursday – 1Q Second Estimate GDP Figures, Weekly Jobless Claims Friday – Apr. Personal Income & Spending, PCE Deflator, May final U. of Michigan Confidence, Apr. Pending Home Sales
Eurozone: Monday –German May Advance Manufacturing & Services PMI, EZ May Advance Manufacturing & Services PMI, ECB’s Weidmann & Mersch Speak Tuesday – German 1Q final GDP Figures, German May IFO Survey, EZ Mar. Industrial New Orders Wednesday – German Jun. GfK Consumer Confidence Survey, ECB's Draghi, Liikanen Speak Thursday – German Apr. Import Price Index Friday – ECB’s Kranjec Speaks, EZ Apr. M3, May Euro-Zone Confidence Surveys, German May CPI
United Kingdom: Monday – BOE’s Tucker Speaks Tuesday – Apr. Public Sector Net Borrowing, May CBI Reported Sales, BOE’s Fisher Speaks Wednesday – 1Q preliminary GDP Figures, Mar. Index of Services, Apr. BBA House Lonas Thursday – BOE’s Tucker Speaks, May GfK Consumer Confidence Survey Friday – May Nationwide House prices
Japan: Monday – Mar. final Leading & Coincident Index CI Wednesday – Apr. Trade Balance, BOJ Governor Shirakawa to Speak Friday – May Tokyo CPI, Apr. National CPI, Apr. Retail Trade
Canada: Wednesday – Mar. Teranet/National Bank HPI
Australia & New Zealand: Tuesday – 2Q RBNZ Inflation Expectations Wednesday – NZ Prime Minister Key & Finance Minister English Speak, AU Mar. Conference Board Leading Index, Mar. Westpac Leading Index, 1Q Construction Work Friday – AU 1Q Private Capital Expenditure
China: Monday – May HSBC Flash China Manufacturing PMI Friday – May MNI Business Conditions, Apr. Industrial Profits
Brian Dolan is chief currency strategist at www.FOREX.com.
Disclaimer: The information and opinions in this report are for general information use only and are not intended as an offer or solicitation with respect to the purchase or sale of any currency. All opinions and information contained in this report are subject to change without notice. This report has been prepared without regard to the specific investment objectives, financial situation and needs of any particular recipient. While the information contained herein was obtained from sources believed to be reliable, author does not guarantee its accuracy or completeness, nor does author assume any liability for any direct, indirect or consequential loss that may result from the reliance by any person upon any such information or opinions.