Euro falls further due to risk aversion and decreasing inflation

01-30-2009 11:33

The euro continued yesterday’s fall declining to a 1.2833 level while the European currency would decline against the yen and the dollar due to disappointing US data which resulted in more risk aversion. European fundamentals joined bearish sentiment while unemployment increased for the fifth consecutive month to 8.0%; November noted 7.9%. Inflation is still below the ECB target of 2% as the CPI estimation printed at 1.1% and dropped under expectations of 1.4%.

It is to be expected that in the next two months the central bank will lower rates once more by at least 25 bps despite the fact that there are doubts about the central bank pausing its easing policy in February. It is possible that the MPC’s price stability mandate obliges while the declining inflation results in an increased risk of deflation in the region. According to president Trichet prices will rise in the second part of 2009 and for that reason he believes that deflation is not a big issue. For that reason the ECB may not lower rates close to zero but additional easing is to be expected. A return of risk appetite may stimulate ‘bullish’ sentiment while the euro is one of the three high-yielding currencies.

The sterling still finds support although the Bank of England is likely to lower its benchmark rate by 50 bps next week. Chancellor Darling allowed the central bank to establish a £ 50 billion ‘asset repurchase fund’ which should give the money markets a boost. Therefore the central bank is able to use quantitative easing and has the ability to obtain obligations and commercial paper in order to improve credit conditions. Today resulted in a minor credit growth due to the increase of house loan approvals to 31,000; December noted 27,000. Still the conditions are limited and due to fall of the GFK consumer confidence from –35 to –37; (a record minimum level since July) it is possible that the UK economy decreases even further. For that reason it is likely that the pound will remain its deterioration. Concerning the rate decision, the 20-day SMA at 1,4984 is a critical level to keep in mind. A significant reversal could be the result of another failure to exceed the technical level.

It is expected that the US GDP data of the fourth quarter prove a 5.5% contraction in the economy; the worst since 1982. Should the decline exceed the expectations, it will join the present sentiment that growth of the US economy will not be realized before 2010. The poor situation of the durable goods orders and yesterday’s unemployment data have resulted in another period of risk aversion and a prove of a growing recession which could increase sentiment. Should the print exceed the expectations in a positive way, it could result in a risk reversal and in a decline of the dollar. Due to the negative growth figures it is possible that orientating traders will be reserved due to the prospects that the next stimulus plan will result in a return of growth in 2009.