Dollar Deflated by Fed Expectations and Eurozone Data

There was nothing groundbreaking revealed yesterday in the April Federal Open Market Committee (FOMC) minutes. Market price action would suggest that it was an uninspired event ticking off most individuals’ boxes. Most dealers are still digesting yesterday’s minutes, and that has temporarily taken some of the wind out of the dollar’s sails.

Federal Reserve members were perhaps not quite as pessimistic as suggested by the noticeable downgrade to economic conditions in the April statement. Notably, most of them thought the poor data were due largely to “transitory” factors, and most expected to see moderate growth resume. Many saw a June hike as unlikely because they do not think the data in June would provide sufficient confirmation that the conditions for raising interest rates were in place.

Since the FOMC’s late April meeting, U.S. economic news has been generally mixed, keeping rate hike odds favoring a September liftoff and possibly as late as December. But there was a lengthy discussion about the possibility that the recent weakness in the pace may persist. A number of Fed officials suggested that the earlier impact of the dollar’s strength and weak oil prices could be longer lasting than anticipated. There was also some concern that the expected boost to consumer spending from lower energy prices may not materialize to the degree expected. A few also noted that, in their view, downside risks to growth since the March meeting had increased. Meanwhile, most continued to see the risks to growth and the labor market as balanced.

For the market, it’s back to basics. It all depends on the evolution of economic conditions and the Fed’s outlook for timing of rate normalization — more talk and more data.

Major European PMI Data Mixed

This morning’s mixed European data releases have not been able to dent the 19-member single currency just yet. The EUR continues to hold above the key support of €1.1065 area, and has even moved temporarily back above €1.1150 after the composite purchasing managers’ index (PMI) for manufacturing and service fell to 53.4 in May from 53.9 in April (a three-month low). The data would suggest that the eurozone is struggling to quickly recover from the damage by its long-term debt crisis. Nevertheless, a print above 50 still indicates that the region has surfaced from a long period of near stagnation, aided by lower energy prices, a weaker EUR, and the European Central Bank’s (ECB) quantitative easing (QE) stimulus program. It remains a rather precarious and fragile situation for European governments and policymakers.

Low and/or no eurozone growth has made household and businesses wary of investing and spending, ensuring that officials cannot afford to take their feet off the gas any time soon. This is reason enough for ECB officials to continue to preach the length of time of their QE program (€1.1 trillion to September 2016). Despite the eurozone showing signs of growth before the ECB’s QE launch last March, most fundamental indications since then have been less encouraging (policy changes usually take months to have an impact before the ‘real’ economy sees any material change).

The slowdown may also reflect growing concerns about Greece’s ability to pay down debts, and certainly includes investors’ worries about the eurozone’s powerhouses’ (Germany and France) mixed economies. Greece remains at an impasse with international creditors, but that situation is expected to come to a head by June 5 when a repayment to the International Monetary Fund is due. While activity in Germany, the backbone of Europe, slowed over the month, France picked up. Data last week revealed that the European economy as a whole grew more rapidly in the first quarter, but Germany slowed sharply, and that seems to have been carried over into the second quarter. If Germany sneezes too often, the eurozone will catch a nasty cold.

UK Retail Sales Beats Expectations

Sterling has fond some support (£1.5676) from today’s U.K. retail sales report. Retail sales rose in April (+1.2%, month-over-month, and +4.7%, year-over-year) after the March slump, which would suggest that the U.K. economy might grow at a stronger pace during the second half of this year. It seems that retailers were given a helping hand by warmer weather. This helped consumers to bring forward some of their summer purchases. Retail sales were also helped by lower costs, driven down by lower energy prices and cheaper food. The follow-through from energy tax savings seems to be having a material effect on the U.K. economy, certainly in contrast to the Fed’s or the ECB’s take on lower crude oil prices not yet filtering into their respective economies.

Data earlier this month indicated that the U.K. economy grew at a slower rate during the first quarter, impeded somewhat by lackluster productivity. This had the Bank of England cutting its gross domestic product (GDP) growth expectations last week for 2015 to +2.4% from +2.9% in February. No matter. Governor Mark Carney remains hopeful and he expects GDP to accelerate in the second quarter.

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