Euro bounces on strong German growth, US interest rate moves

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Two factors boosted the Euro-Dollar cross last week.

F
irst, much stronger than expected third-quarter GDP data further confirmed that the Eurozone economy is shifting to a higher growth gear. Second, the fall of long term US interest rates relative to short term ones, a phenomenon known as “curve flattening”. This move in rates means markets still don’t believe higher rates in the US are sustainable, and the Dollar wobbled as a result. However, higher than expected data out of the US helped the Dollar hold its own against commodity currencies like the Australian and New Zealand Dollars, the worst weekly performers.

This week begins with the news that the attempts to form a stable governing coalition in Germany are going badly, which is a clear negative for the Euro. The US goes on its Thanksgiving holiday, which usually makes for thin, desultory trading after Wednesday morning. There are no releases of critical importance in either side of the Atlantic, so we expect the political calendar to drive currency trading.

Major currencies in detail

GBP

A weaker-than-expected inflation report in the UK brought pressure on Sterling early on the week. However, Sterling managed to pull a recovery later on, at least against the Dollar, while it continued to lose ground against a resurgent Euro.

This week action should focus on the release of the 2018 Budget on Wednesday. We see some scope for a positive surprise relative to market expectations. Conservatives are polling badly, and there may be some internal party pressure for relaxation of unpopular austerity policies. Such an outcome should be a positive for Sterling.

EUR

The strong German GDP numbers buoyed the Euro early on. However, we doubt the rally will last. The ECB has already factored into its precaristas strong economic growth across the Eurozone. What is needed to warrant higher rates in the Eurozone is an unambiguous upward trend in core inflation, and we have yet to see any signs of that.

The minutes of the last ECB meeting, released Thursday, should shed some light on the ECB reaction to the increasing divergence between its forecasts and actual inflation numbers.

USD

Currency markets overlooked a critical piece of information in the US. The upward surprise in inflation for the month of October should bring some comfort to Federal Reserve officials worried about the inability of wages and prices to rise as they should this late in the cycle. We are now more confident that the November payroll report, the first one to return to normal after the hurricane-impacted September and October numbers, will show wages back to an increasing trend, facilitating further Fed hikes after the December meeting.

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