The dollar was little changed against the yen and euro on Friday after a strong U.S. consumer confidence survey kept expectations low that the Federal Reserve might cut interest rates within the next several months.
The Dollar overall was stronger against the lower yielding currencies like the Yen and the Swiss Franc in the week.
The University of Michigan preliminary consumer sentiment index moved to 98.0 in January, well above December’s 91.7 reading, and also higher than forecasts for 92.3.
The dollar posted surprisingly strong gains during the first two weeks of 2007 after a series of positive U.S. economic reports erased expectations the Federal Reserve would cut interest rates in the near term to spur more growth.
Interest rate futures contracts Friday were pricing in just a 16% chance of a Fed rate cut to 5.0% from the current 5.25% in the first quarter and a 40% chance of a cut before June. Economic data out of Europe were U.K. retail sales, which rose at their strongest rate in three years in December. Sales climbed 1.1% in December from November, beating expectations of a 0.5% uptick.But sterling, which has been on a tear against the dollar and the euro during the past week after the Bank of England surprisingly raised its key lending rate to 5.25% from 5.0%, saw little gains from the retail sales data. However the sterling’s lackadaisical response to retail sales data suggests the market has now priced in all the good news and is vulnerable to disappointing news and/or profit-taking. This would mean that after a period of out- performing, sterling is likely to under-perform in the period ahead.
Meanwhile, the Chinese yuan weakened against the U.S. unit for the first time Friday, though traders said the yuan will likely resume its strengthening trend next week.U.S. trade authorities would like to see a steady appreciation of the yuan - which is linked to a basket of currencies that include the dollar - to help the U.S. narrow its wide trade gap. Traders said the market is expecting faster yuan appreciation after comments from China’s trade ministry that a stronger yuan recently hasn’t hurt China’s exports.
This week the German business confidence data and Bank of England minutes could give clues on the likelihood of more rate hikes in the euro zone and UK next week, stealing the show given a light data calendar in the United States.
The European Central Bank raised interest rates to 3.5 % in December and has continued to express concerns about inflation risks and high liquidity in the financial system, suggesting they could be ready to hike rates again soon. Policymakers will eye Germany’s Ifo survey of business expectations due on Thursday, to see whether the euro zone’s largest economy would be able to weather the effects of higher interest rates ahead.
The headline business climate index for January is forecast to give a reading of 109.0, up from 108.7 the previous month.
If Germany shows signs of having shrugged off the VAT hike, then it’s quite possible that the ECB will continue to tighten policy in the second quarter and perhaps beyond. Other possible indications of ECB plans might come from the euro zone December money supply data, due on Friday.
The interest rate debate will also remain at the forefront in the UK. A 3-% annual inflation figure and stronger-than-expected December retail sales have fuelled speculation that the Bank of England could follow this month’s surprise rate hike with another move in coming months.
The market will look at the Monetary Policy Committee’s minutes released on Wednesday and a speech by Bank of England Governor Mervyn King on Tuesday. MPC meeting minutes are being watched to see how unanimous the vote was. People will be looking for greater clarity why the Bank of England moved now, rather than waiting for more information from the wage settlements; they will want to see how far the BoE sees the upside risks to inflation.Reuters consensus forecast is for a 7-2 split on the vote.Leading indicators released on Monday and U.S. housing data on Friday should provide greater clarity as to the direction the Federal Reserve’s monetary policy might take.
A run of strong U.S. economic releases, including jobs, house building and retail sales numbers in recent weeks have dimmed the chances of an imminent rate cut.
Lower oil prices, which briefly dipped below $50 a barrel for the first time since May 2005, have also helped, signalling lower production costs for U.S. industry and less pressure on consumer prices. On a light week for U.S. data, the market will be looking at December existing home sales on Thursday and new home sales on Friday for assurance that the recent strength in the building sector has not just been the result of unusually mild weather.
In Japan, the highlight of the week will be consumer price data. Any signs of a pick up in inflation could boost expectations that the Bank of Japan will raise interest rates to 0.5 % next month.