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Forex: Euro Hit by Growth Fears, Pound to Rally on Sticky Inflation

Forex: Euro Hit by Growth Fears, Pound to Rally on Sticky Inflation

David Song, Strategist

Talking Points

  • Euro: ECB to Preserve ‘Wait-and-See’ Approach Despite Deepening Recession
  • British Pound: Threatens Bullish Trend Ahead of U.K. Inflation Report
  • U.S. Dollar: Fed Rhetoric on Tap, Chairman Bernanke in Focus

Euro: ECB to Preserve ‘Wait-and-See’ Approach Despite Deepening Recession

The EURUSD gave back the overnight advance to 1.3403 as industrial outputs in Europe fell 0.3% in November versus forecasts for a 0.2% print, and the short-term pullback in the exchange rate may turn into a larger correction as the deepening recession dampens the appeal of the single currency.

As the debt crisis drags on the real economy, Fitch Ratings expects the euro-area to contract 0.1% in 2013, but we may see a more pronounced downturn in Europe amid record-high unemployment paired with the ongoing slack in private sector activity. Nevertheless, European Central Bank (ECB) board member Peter Praet talked down bets for a rate cut as he endorsed a ‘wait and see’ approach for monetary policy, but we may see the Governing Council keep the door open to lower the benchmark interest rate further as the economic downturn threatens price stability.

In turn, the ECB’s monthly report on tap for later this week may continue to highlight the downside risks for growth and inflation, but we may see the central bank strike a more neutral tone for the policy horizon as European policy makers increase their efforts to address the debt crisis.

As the relative strength index on the EURUSD falls back from a high of 66, the downward trend on the oscillator may foreshadow a bigger downturn in the exchange rate, and we may see the bearish divergence threaten the ascending channel carried over from the previous year as the fundamental outlook for the euro-area deteriorates.

British Pound: Threatens Bullish Trend Ahead of U.K. Inflation Report

The British Pound pared the rebound from the previous week, with the GBPUSD slipping to a low of 1.6036, but the sterling may regain its footing over the next 24-hours of trading as the economic docket is expected to show stick price growth in the U.K.

Indeed, the headline reading for inflation is expected to increase an annualized 2.7% for the third month in December, but an unexpected uptick in the consumer price index may spark a sharp rally in the British Pound as the Bank of England (BoE) adopts a hawkish tone for monetary policy. As the central bank sees above-target inflation over the policy horizon, we anticipate the Monetary Policy Committee slowly move away from its easing cycle, and we may see the central bank start to discuss a tentative exit strategy as the U.K. emerges from the double-dip recession.

However, as the GBPUSD comes up against the lower bounds of the upward trending channel dating back to June, a move back towards the 1.6000 figure would dampen our bullish forecast for the sterling, and we will keep a close eye on the inflation report as market participants weigh the outlook for monetary policy.

U.S. Dollar: Fed Rhetoric on Tap, Chairman Bernanke in Focus

The greenback extended the rebound from Friday, with the Dow Jones-FXCM U.S. Dollar Index (Ticker: USDOLLAR) advancing to a high of 10,077, and the reserve currency may appreciate further during the North American trade should we see Fed officials scale back their dovish tone for monetary policy.

As the economic docket remains fairly light throughout the U.S. session, we should see risk sentiment dictate price action for most of the day, but the fresh batch of central bank rhetoric may increase the appeal of the USD as the FOMC takes note of a more broad-based recovery. Indeed, all eyes will be on Fed Chairman Ben Bernanke as he’s scheduled to speak on the economylater today, and we may see the central bank head talk down speculation for more quantitative easing as the region gets on a more sustainable path.

FX Upcoming










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Business Outlook Future Sales (4Q)





Fed's John Williams Speaks on U.S. Economy




Fed's Dennis Lockhart Speaks on U.S. Economy




ECB's Peter Praet Speaks on Euro-Zone Crisis




Fed Chairman Ben Bernanke Speaks on U.S. Economy




Food Prices (MoM) (DEC)


--- Written by David Song, Currency Analyst

To contact David, e-mail Follow me on Twitter at @DavidJSong

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