Dollar Mixed on Day and Week Amid Much Noise Around Constant Signal

It has been difficult to talk about the US dollar in general terms.  It continues to be mostly softer against the European complex, but firmer against the yen and the dollar-bloc currencies.   Although there has been much talk this week, the forces shaping the investment climate have not really changed.  

The Fed, as the vast majority of survey respondents have recognized,is most likely to taper early in the New Year.  Some observers this week think they heard a signal that it could come in December, but this still seems very unlikely.  Even if these has been some improvement in the labor market, as today's JOLTS data will likely illustrate, while layoffs may have slowed, hiring has not picked up very much.  Surely, given the fact that inflation has yet to move toward the Fed's target, there it makes sense to let whatever improvement in taking place to solidify.  

We also remain struck by the dramatic change that will take place in the coming months at the Federal Reserve's Board of Governors.  From an institutional point of view, what sense does it make for the Bernanke Fed to taper at its very last meeting (assuming Yellen chairs the Jan 2014 meeting) ?  If the first tapering will be modest, say $10-$15 bln, tapering in December makes no macro-economic difference than tapering in Jan or even March.  In terms of scale here, it is, after all, a little more than a rounding error.  It is all about the signal.  Better for the new Fed to send that signal.  

The ECB is clearly concerned about the direction of monetary conditions in the region.  Inflation is low and may even now overstate the pressures as some tax increases or administered price increases may be inflating the official measures.  Lending to the private sector continues to contract.  Money supply growth is weak.   It is discussing different actions.  We argue that there are no good options for it.  However, there are less effective measures that need to be exploited first, before a dramatic step like a unprecedented (for a major central bank) negative deposit rate or a legally questionable quantitative easing.    

We note that the ECB has suspended year-end repayments of LTRO borrowings.  No prepayments will be accepted from late Dec through early Jan.  This is devoid of policy significance.  This is simply a technical and administrative measure.  The sums involved are too small to have market impact either.  It is not unusual for there to be year-end pressures.  This does thing one way or the other

One thing that has been drawn out this week is the increasing divergence between Germany and France.  This was driven home by the continued recovery in the former, and renewed contraction in the latter in the flash PMI readings.    Today's Germany's IFO survey tells the same story with much stronger than expected results across the board. 

With Germany's chronically large current account surplus has been widely criticized lately (US Treasury, IMF, EC), the details of Q3 GDP released today (and confirmed at 0.3%) show its defense.  Net exports took about 0.4% of GDP.  Domestic demand rose 0.7% of GDP.  Criticized by some for a tight fiscal stance, government spending rose 0.5% and investment rose 1.6%.  Of course,the issues are much broader and is not concerned about this quarter or that, but the underlying trends.

Meanwhile, strong business and consumer confidence survey results has given the Swedish krona a boost.  The boost was sufficient to push the krona to the top of the performance table of the major currencies this week.  That data and the prospects for a favorable string of data before the December Riksbank meeting at which there has been some speculation of a rate cut, may also encourage some squaring up.    Base effects suggest a strong increase in Oct retail sales (Nov 28) and Q3 GDP (Nov 29) should show a strong recovery after a 0.2% contraction in Q2.   The economy likely matched or surpassed the pace recorded in Germany.  

The Australian and New Zealand dollars are the worst performing currencies this week, with 2.1% and 1.8% losses against the US dollar respectively.  It is notable that what some think of as high-beta currencies should be doing better in an environment in which interest rate differentials are thought to be playing a key role in the current climate.   That the currencies are over-valued is well known as is the penchant for local central bank officials to jawbone their currencies nearly every opportunity.  This week the RBA seemed to take it up another notch by brandishing the intervention threat.  The softer HSBC flash China manufacturing didn't do them the Aussie or Kiwi any favors.  

The BOJ's Kuroda dismissed talk of asset bubbles in Japan and rejected claims that the yen was at "abnormal" levels.  He seems in no hurry to provide more stimulus that most participants (according to surveys) think will be necessary to hit the BOJ's target of 2% core inflation, which now stands at zero by April 2015.  And in the face of not only the doubling of the capital gains tax to 20% on Jan 1, but especially the retail sales tax hike to 8% from 5% on April 1. 

Maybe the dollar is the not the key axis this week, in the foreign exchange market.  Maybe it was the yen.  After all the big monetary shock this year is not the Fed's QE, but Japan's QQE.   Half of the Fed's QE was already in place on Jan 1.  The yen was sold on mostly on the European crosses.  In terms of portfolio flows, Japanese investors have been buying foreign bonds for six consecutive weeks, for a total of almost $4 bln.  For their part, foreign investors bought about $1.3 bln of Japanese shares last week alone, the second largest weekly amount this year.  Anecdotally, it seems that a greater share of the yen is being hedged than typically may be expected from equity investors. 

A few items on the calendar before putting the finishing touches on the week.  Canada reports CPI and retail sales.  We suspect that a softer inflation report is more important than small gain in retail sales.  The Bank of Canada has underscored low inflation in recent comments.   It has removed its tightening bias forward guidance.  The US dollar is nearing the year's high against the Loonie, which was set in early July just above CAD1.06.  In the US, the chronic hawkish dissenting Fed's George speaks early in the North American session.  The Fed's Governor Tarullo speaks on shadow banking near midday.