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A Fiscal Catastrophe Just 3 Weeks Away

A Fiscal Catastrophe Just 3 Weeks Away

Kathy Lien, Technical Strategist

Currency markets have traded quietly this week, but with the debt ceiling debate continuing unresolved, a potential government shutdown and first-ever US debt default loom just three weeks away.

The US dollar (USD) traded lower against all major currencies except for the Australian dollar (AUD) and New Zealand dollar (NZD) on Wednesday. With only second-tier economic reports released this week, we have not seen any big dollar moves.

The almost daily declines in US Treasury yields tell us that investors still believe the chance of no tapering this year outweighs the chance of tapering, but some Federal Reserve officials have suggested otherwise, which means tapering of asset purchases this year remains on the table. The decision will hinge on incoming data, and based on today's releases, the outlook for the US economy hasn't gotten any clearer.

See related: 2 US Dollar Themes Unfolding Quietly

Meanwhile, the fiscal showdown in Washington continues to be the top story in the financial markets. US Treasury Secretary Jack Lew said the debt ceiling will be hit no later than October 17, and when that happens, the government could have less cash on hand than initially estimated.

According to the letter written by Lew and addressed to House Speaker John Boehner: "We estimate that, at that point, the Treasury would have only $30 billion to meet our country's commitments, far short of the net expenditures on certain days, which can be as high as $60 billion."

The debate will continue through the weekend as the House takes its time to draft an alternative bill and propose legislation that could increase the government's borrowing limit. If a deal is reached, it will most likely be at the eleventh hour, and the consequence of no deal getting done could lead to the first-ever US debt default.

On Thursday, US weekly jobless claims, pending home sales, and final Q2 GDP numbers are scheduled for release. GDP growth is expected to be revised higher, but a further decline is expected for pending home sales. After two weeks of computer-related distortion to the jobless claims data, investors will be watching this report closely to gauge the current status of the labor market.

The NZD/USD Correction Rolls on

Weaker-than-expected economic data drove NZDUSD and AUDUSD lower, and the selloff in NZDUSD gained momentum after last night's New Zealand trade deficit, which was expected to deteriorate, but not to show the largest trade deficit since September 2008.

See related: A Big FX Winning Streak That Looks to Be Over

While the Reserve Bank of New Zealand (RBNZ) could be annoyed by the recent release, it may not be enough to prompt the central bank to drop their bias to raise rates next year because the widening of the deficit was largely caused by one-off imports of a drilling platform and railway wagons from China.

Clear Range Boundaries for USD/JPY

The Japanese yen (JPY) continued to trickle higher against the dollar but held steady against most other major currencies. Last night's Japanese economic reports were all better than expected, confirming that Japan's recovery is underway.

The Japanese government still needs to consider increasing stimulus, however, especially if it plans to announce its intention to raise the consumption tax on October 1. The increase in the corporate service price index indicates that Japan is slowly beating deflation, and losses in the Nikkei and US ten-year Treasury yields are keeping USDJPY under pressure.

With no major US or Japanese data scheduled for release over the next 24 hours, we do not expect any big moves in USDJPY, and in the near term, the 100 level should limit the upside for the pair, and 97 should cap the downside.

By Kathy Lien of BK Asset Management

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.