US Dollar: Back to the Drawing Board

We are back to the drawing board with the US dollar. Strong consumer spending and the lowest unemployment rate in 14 years could force the ECB to backtrack on their words and actually prepare the market up for more than one rate hike in the third quarter. The June consumer price index is expected to be at 4% double the ECB’s 2% inflation forecast.

Up until now the ECB has openly hinted that a rate hike in July will be one-off, but with inflation pressures continuing to increase and growth resilient, 2 rate hikes from the ECB this year is more than realistic.

Other than raising rates by 25bp and moving to a neutral stance, which the market has already discounted, there are 2 other options that Trichet may be considering. One would be to gain the upper hand on inflation by hiking rates by 50bp instead of 25. The second would be to raise rates by 25bp and leave the door open for another rate hike this year. Closing the door completely could be mistake especially as oil prices heads towards $150 a barrel.

As for the US dollar, we are back to the drawing board. The greenback is declining against the Japanese Yen, Euro and British pound. Fears of trouble in banking sector including a profit warning from UBS and talk of a bargain basement sale of Lehman Brothers has stocks set to open lower. The greater the decline in stocks, the lower the chance of a rate hike by the Federal Reserve in the third quarter and the bigger the reason sell the US dollar ahead of the ECB meeting.

Comments

[bruin532]

Wrong, ECB leaves rates unchange 2 reasons member states are complaining about stagnant growth due to EURO strengthand and ECB dosen't want to be implicated should the US markets take a header post rise.

[Reinko]

I hope you are right Kathy.

But for months on a row I am looking at a ECB that after every meeting tells that consumer inflation is anchored. They never offer any kind of proof for that statement (in fact it is not true at all, most labor unions keep an eagle eye on inflation).

The whole problem is: The ECB likely truly thinks that inflation is anchored...

Beside this there is the problem of operette central banks like those of France and Italy, it would be better to kick them out of the Euro zone and give them their old strong currencies back. Yet in the meantime this is not possible and we have to live with these mental dwarfs.

So lets hope the ECB will raise at least 25 basis point at least one time, I have learned to be humble by now...

[Ames Tiedeman]

The British Pound looks weak. Their economy is not strong enough for a pound so high. I see the pound falling soon. British consumers are in worse shape than American consumers with regard to debt levels. The British housing debacle has only just begun. Bad days ahead for England.

[Coelacanth]

I think the ECB hiking rates Thursday is pretty much baked into the cake. I also agree that the ECB may leave open the option to hike again although slowing growth may be enough rein in inflation.

Also, in reference to what another poster said, the ECB isn't telling consumers inflation is anchored....rather they're working to make sure inflation expecations stay anchored, presumably using a rate hike to help entrench those expectations.

Also, Trichet isn't going to let Sarkozy (even though he is taking over the EU's rotating presidency July 1st) and Burlesconi influence his decision. Trichet has hinted very strongly to the market that a hike is coming and IMO there is almost 100% certainty they will hike by the .25% they've been talking about.

I agree with Ames about Cable. IMO GBP/USD presents a great short opportunity. Most of the economic indicators coming out of merry ol' England this week have been awful and clearly point to future weakness.