by Darrell Jobman, Editor-in-Chief TraderPlanet.com
The dollar strengthened to 1.3275 after the US inflation data on Thursday, but failed to hold the gains and weakened consolidated around 1.3310 for the second consecutive session.
US producer prices rose 0.9% in May compared with expectations of a 0.6% rise with the core rate in line with expectations at 0.2%. This data suggests that higher energy costs and import prices are still an inflation threat. The consumer prices data on Friday will be important in providing greater evidence on the overall inflation threat. Energy costs will push up headline prices and core monthly price increase of 0.3% or more would create market speculation over a Fed tightening which would support the dollar.
Jobless clams were little changed at 311,000 in the latest week and the US industrial data should be firm on Friday which would underpin optimism over growth trends.
The dollar overall should gain support from underlying yield considerations. Bond yields have stabilised, however, and this is likely to curb further strong short-term dollar buying. The dollar will also be vulnerable if a wider than expected current account deficit combines with weak capital inflows in Friday’s data.
The yen remained under pressure against the dollar on Thursday with losses to fresh 54-month lows above 123.0 as global yield plays remained dominant.
Given the focus on yields, the Bank of Japan policy decision will need to be watched closely on Friday. An unchanged policy is the most likely outcome, in which case comments after the decision will be important in judging the timing of the next rate increase. The bank will potentially signal an August increase in rates.
There is, however a small chance that the bank will act pre-emptively and announce a rate increase on Friday which would push the yen sharply stronger. There is a greater risk that there will be a split decision within the council.
Sterling drifted weaker to 0.6760 against the Euro on Thursday and was also unable to hold above the 1.97 level against the dollar.
There was a 0.4% increase in retail sales for May to give an annual increase of 3.9% from 4.2% previously. The data suggests that retail spending growth has cooled slightly, but is still holding relatively firm. The data also suggested that prices were generally subdued over the month which will ease inflation fears slightly. The latest RICS house-price survey reported a slowdown in the percentage of agents recording higher prices to 24% in May from 29% in April.
The tentative evidence of a slowdown in inflationary pressure is likely to curb expectations of UK interest rates rising to the 6.0% level which will tend to undermine Sterling given the tightening already priced in.
The Swiss franc was unable to gain any support from the interest rate decision on Thursday and weakened to around 1.6580 against the Euro with the franc holding around 1.2460 against the dollar.
The Swiss National Bank has increased interest rates by a further 0.25% to 2.50% following the latest policy meeting after discussing the possibility of a 0.5% increase. The central bank has also increased its 2007 inflation forecast to 0.8% from 0.5%. The 2008 inflation forecast has been increased to 1.5% from 1.4% while GDP growth forecasts have been revised up.
National Bank President Roth warned that the intended policy tightening has been neutralised by the franc weakness while the overall inflation outlook has deteriorated since the last meeting. The comments suggest that the bank will look to increase interest rates again in September. There will be some disappointment that the bank did not increase rates by 0.5%, but the remarks should provide underlying franc support over the next few weeks.
The Swiss currency will still be influenced by global carry trades and a continuing recovery in risk appetite would tend to undermine the Swiss currency. The net risks still suggest that markets are being complacent over the risk situation.
The Australian dollar was unable to hold above 0.84 in local trading on Thursday. Reserve Bank Governor Stevens stated that inflation was likely to rise slightly, but that the increase was likely to come from a lower base given recent favourable data.
He also stated that the bank had time to monitor the situation which will dampen expectations of a near-term move to increase interest rates. This adjustment will tend to weaken the Australian dollar to some extent, although volatility is likely to be the key short-term feature.