Record Trade Deficit Doesn’t Hold Dollar Down

US Dollar
Trade in the US dollar was not what initial fundamentals would suggest.  Though the day was sprinkled with a number of smaller indicators, the real event risk fell to July’s trade balance. Against expectations of a modest increase to a $65.5 billion shortfall, the deficit instead printed a record $68.0 billion.  The minutes after the release colored the dollar with volatility though, when all was said and down, the dollar ended the day higher in most of the majors. How can the dollar find a bid on record imports at $188 billion and the first contraction in exports in five months?  Largely because of expectations.  It is common knowledge that the monthly trade report is a lagging indicator, and if the major components weighing in on the old read are already known to have alleviated in the succeeding months, then expectations for an improvement will already be factored in.  This temporary burden for July was obviously petroleum imports, which left the specific category with a $28.4 billion shortfall as crude oil soared to an all-time high above $78.  Since then, market participants have seen oil prices drop markedly from that high and positioning has been adjusted to reflect this.  Elsewhere, San Francisco Fed President stuck to her claim that policy “must have a bias toward further firming,” which was very similar to her comments last week.  Official remarks will meet its pinnacle tomorrow when Treasury Secretary Paulson speaks about the international economy in Washington.  This could offer clues into what he will say when he travels to China in the weeks ahead to discuss trade imbalances.

Euro
Action in the euro crosses was a mixed bag Tuesday.  The first piece of data, the German wholesale price index, initially compelled a bullish tone for the shared currency.  According to Germany’s Federal Statistics Office, inflation at the wholesaler level grew 0.6 percent month over month, beating out expectations for an unchanged period.  More importantly, however, was the 5.3 percent pace of growth from a year ago.  This matched the increase printed in June for the title of the fastest pace of inflation in nearly six years.  This indicator specifically proved its worth as a counter to the CPI read for the same month, which in its preliminary release, fell below the ECB’s 2.0-target rate for the first time in five months.  The only other scheduled release for the day, provided exactly the opposite sentiment for the European currency.  Predictions of a slim contraction in the French trade account for July proved overly optimistic as the now 29th consecutive monthly deficit hit its lowest point since records began going back to 1992.  With these two conflicting reports, the final word in euro direction fell to monetary officials in the bloc.  From the ranks of the ECB, two members came forward with hawkish warnings on inflation.  Both members, Constancio and Garganas reiterated the central bank’s “vigilant” stance on inflation, but the latter went on to say that the bank might need to withdraw a “considerable amount” of accommodation in the coming months. 

British Pound
Inflation was the name of the game for the British pound this morning.  With the Bank of England just recently passing on a rate hike this past Thursday, today’s CPI read seems to have come just a few days too late.  The commonly interpreted figure grew once again to 2.5 percent, matching its fastest pace in at least nine years while hovering well above the central bank’s target rate. Among the more expensive categories for the period were recreational goods, furniture and clothing, suggesting price growth wasn’t just an extension of extraordinary spending habits during the World Cup.  Also, though the consumer index was the most important for the day, the retail price index was making a price push for the same month.  On a monthly basis, the RPI grew a greater than expected 0.4 percent, which in turn boosted the yearly pace to a 20-month high 3.4 percent.  Similar to the consumer equivalent, the RPI components stoking the greatest amount of upward pressure were clothing, travel costs and household goods.  Another set of indicators scheduled for the day that ended up a non-event were the Leading and Coincident indicator indices.  The composite read of current conditions, the Coincident Index, increased a slight 0.1 percent on improvements in employment and household income components easily offset a slight dip in retail sales. Usually more interesting to the markets, the Leading Index also picked up only 0.1 percent as a dip in consumer confidence was offset by an equities rise through the month.  Finally, already getting a jump on tomorrow’s data, Prime Minister Tony Blair let it slip at a trade union event that tomorrow’s employment data would disappoint.  This may temper a negative read tomorrow, but if its much worse, there is little that can be done.

Japanese Yen
Though not as surprising as yesterday’s 16.7 percent drop in machine orders, the indicators released today were keeping the yen on the short side of many pairs.  August’s read of Domestic CGPI, the Japanese equivalent to western producer price indices, held to its 25-year high 3.4 percent pace.  Essentially an indicator for prices paid by factories for a basket of raw materials, the figure is a reasonable sign that deflation in the world’s second largest economy has come to an end.  However, some claims that this could be a direct contribution to an immediate rate hike from the BoJ seem a little premature, since firms continue to absorb the higher costs rather than attempt to pass them on to consumers whose confidence seems delicate.  The extent of that delicacy was the issue of the consumer confidence survey print.  Once again, pessimists dominated optimists in August as the indicator missed expectations of a slight improvement to 49.0 with an actual 47.8 read.  A drop in confidence seems unusual given a jobless rate near an 8-year low, but the source of such dour sentiment comes from July’s drop in wage growth, the first in six months.  While the yen has found little basis for a rally recently, one event could support a bid – the G7 meeting scheduled this weekend is Singapore.  As the USDJPY hovers around 118 just before the meeting, it evokes memories of a similar situation in April when the conclusion of that G7 meeting provided a call for China to loosen its FX restrictions.  The month’s after this report saw a very drawn out yen rally, though no material policy change was issued by China over the period.