Irish Budget, US Tax Compromise, Strong UK Mfg Output

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There does not appear to be the basis of agreement among European officials of what to do next to stem the financial crisis. Neither expanding the EFSF nor issuing so-called E-bonds has found strong support. A German-Netherlands-Austria axis has been sufficient to stymie additional reforms at this juncture and peripheral bonds continue to be under modest pressure. The Irish budget vote appears a bit anti-climactic after two independent MPs signaled their intention to vote with the government today. The budget debate will begin around 10:45 am EDT and the vote is scheduled for around 2:00 pm EDT.

The government's budget will include about 4.5 bln euros in spending cuts and 1.5 bln euros in tax increases. In order to meet the budget targets while keeping the senior bond holders whole is forcing the government to include more people in the income tax net, cut minimum wage by about 11.5% (to 7.65 euros an hour) and trim welfare benefits.

Outside of some headline risk, the market may be looking beyond the Irish budget toward 1) the political fall out, elections early next year and the risk some a new government will want to re-negotiate some aspects of the budget and aid package and 2) an appreciation that with the rate of of interest on the aid package set significantly above growth potential suggests no near-term stabilization of debt to GDP ratio. Consequently, as the markets have learned by the Greece experience, the situation is unresolved in any meaningful sense, except that the paper chase and confidence game can continue a bit longer.

In the US, President Obama and the Republican Party appears to have reached a compromise on the 2001 and 2003 tax cuts. They will be extended by 2-years. In exchange, there will be a 2% payroll tax holiday, which is to replace the Make Work Pay program, which was the single largest line item in the stimulus package. In my notes I had expressed concern that its expiration would feel like a tax hike at the start of the new year, after consumers appeared to step up their shopping in late 2010 and dipped into savings. It looks like the compromise will also allow for an extension in long-term unemployment benefits.

Some observers are already linking Bernanke's admission that the Fed could buy more than $600 bln of Treasuries with this tax cut extension to express renewed concern over the monetization of US debt. This may reinforce ideas that the dollar's rally is more a function of negativity toward the euro than a real turn in underlying dollar sentiment.

Elsewhere the UK surprises with a 0.6% rise in Oct manufacturing output, twice what the market had expected. Headline industrial output fell 0.2%. The consensus had looked for a rise of similar magnitude, but the fact that manufacturing rose so smartly more than offsets the disappointing headline figure. Big declines were seen in mining/quarrying. Utility output also fell 1%.

The Reserve Bank of Australia left rates on hold and the Bank of Canada is widely to follow suit later today.

In terms of price action, the euro (and Swiss franc) remain within last Friday's trading range. Sterling is flirting with a 20-day moving average that comes in near $1.5840 and a down trend line that comes in near $1.5875. The dollar slipped below JPY82.50, which appeared to have been defended initially. The dollar fell to its lowest level since mid-Nov against the yen. I expect the euro to slip back to $1.3300 and possibly $1.3250 today or into tomorrow. I would not be surprised to see sterling return to $1.5700. The dollar is stuck in narrow ranges against the yen again and JPY83.00 offers good resistance.