U.S. Dollar Loses Ground Ahead of Fed Beige Book

Talking Points

• Japanese Yen: Mixed Amongst Majors
• Pound: Home Prices Unexpectedly Rise for Second Month
• Euro: German Trade Surplus Narrows in July
• U.S. Dollar: Fed’s Beige Book, Consumer Credit on Tap

As the euro-dollar bounces back from the 100-Day SMA (1.2669), the pair may work its way back above the 20-Day SMA at 1.2759, but the uncertainties surrounding the European economy could weigh on the exchange rate even though policy makers attempt to talk down the risks for the region. Bundesbank President Axel Weber said that the economic recovery has been stronger than initially expected and does not see a risk for a double-dip recession or deflation, but went onto say that it is too early to say that the crisis is over as the future outlook remains clouded with uncertainties. In addition, Mr. Weber argued that higher capital ratios for commercial banks will not “hamper” the real economy as global policy makers aim to strengthen the financial system, and expects to see moderate growth paired with price stability going forward as the central bank aims to stem the downside risks for the economy.

At the same time, European Central Bank board member Guy Quaden said commercial banks cannot be “eternally” dependent on the emergency measures as the Governing Council aims to normalize policy in 2011, and said that the central bank will “do everything possible to avoid deflation” while keeping a lid on inflation as it maintains its one and only mandate to ensure price stability. As the governments operating under the fixed-exchange rate system tighten fiscal policy and implement austerity measures to balance their public finances, the ECB is widely expected to support the real economy throughout the remainder of the year as central bank President Jean-Claude Trichet anticipates an uneven recovery to unfold going forward. Nevertheless, the economic docket showed the trade surplus for Germany narrowed to EUR 13.5B in July from a revised EUR 14.2B in the previous month, led by an unexpected 1.5% decline in exports, while industrial outputs in Europe’s largest economy tipped 0.1% higher in July, which fell short of projections for a 1.0% rise.

The British Pound pared the decline from earlier this week and rallied to a high of 1.5493 during the European trade as the economic docket reinforced an improved outlook for the U.K., but the lack of momentum to push above the 20-Day SMA (1.5493) could keep the exchange rate within a narrow range throughout the day as the Bank of England is scheduled to announce its rate decision on Thursday at 11:00 GMT. A report by Halifax showed home prices increased 0.2% in August amid forecasts for a 0.5% decline, while industrial outputs increased 0.3% in July versus forecasts for a 0.4% rise. Moreover, manufacturing in the U.K. expanded 0.3% for the third consecutive month, which was largely in-line with expectations, and the recovery may gather pace over the coming months as businesses continue to expand production and employment.

The greenback lost ground on Wednesday, with the USD/JPY slipping to a fresh yearly low of 83.33 during the overnight trade, and the dollar is likely to face increased volatility throughout the day as the Fed is likely to maintain a cautious outlook for the world’s largest economy. In addition, the economic docket is expected to show a $4.5B drop in consumer credit following the $1.3B decline in June, and the developments could weigh on the prospects for future growth as private sector spending accounts for more than two-thirds of the economy.

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To discuss this report contact David Song, Currency Analyst:dsong@fxcm.com

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