EU Inflation Figures Continue to Display Weakness

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By Jameel Ahmad

Last week, market volatility was slightly lower than usual with investors perhaps bracing themselves for the upcoming week’s ECB interest rate decision and US jobs report. However, we did encounter the release of some more vital EU metric data, which seemed to provide further validity to the consensus that the ECB will implement further stimulus, this coming Thursday.
For example, both Italy’s and Spain’s latest inflation data missed expectations. In Italy, it was expected that inflation levels would rise by an annualized 0.6%, however prices increased by only 0.5%. Whereas in Spain, the annual inflation rate increased by 0.2%. A substantial drop compared to last month’s 0.4% gain. There were also concerns regarding EU employment data released in France and Germany. In France, unemployment reached another record high and in Germany, the number of people unemployed surprisingly increased for the first time in six months. The total EU unemployment rate
will be released this upcoming Tuesday.

In other news, there are increasing emerging indications from the United States that their economy is progressing. On Tuesday, US Durable Goods dismissed analyst expectations for a 0.6% contraction, increasing by 0.8%.
This was followed by US Consumer Confidence advancing towards its second highest reading in nearly six years. Further good news was announced on Thursday when Initial Jobless Claims continued its recent consistent decline, with only 300,000 applications made last week. For the past four weeks, Initial Jobless Claims have decreased to their lowest level since August 2007.
However, there was confirmation that the terrible weather the US faced over the New Year period led to the US economy contracting by 1% during the first quarter of 2014. Initially, the news that the US GDP contracted for the first time in three years created some anxiety, though analysts are now trying to digest the GDP data in a positive manner. After reviewing the GDP release, it was apparent that a significant proportion of the economic contraction was due to a reduction in business investment and construction
building. The general feeling is that this will correct itself over the coming months, and contribute towards the 2nd quarter US GDP surpassing expectations.

In regards to the Japanese economy, there appears to be an air of confusion regarding their highly anticipated CPI release. During the beginning of the week, the JPY strengthened following reports that BoJ policy makers are already discussing the possibility of withdrawing from their QE stimulus, leading to suspicions that Thursday’s Japanese CPI data was going to outperform expectations. This turned out to be the case, with Japanese consumer prices increasing to their fastest pace in 23 years, at an
annualized 3.2% growth level.
However, the inflation release appeared to be subdued. On reflection of the data, it was apparent that a sales tax recently implemented in April encouraged additional consumer expenditure. Despite the sales tax
encouraging consumers to purchase, household spending actually contracted by
an annualized 4.6%. The overall conclusion was that with household spending
contracting and a recent sales tax contributing towards the inflation surge,
the current CPI levels will not be sustainable. The IMF promptly dismissed
the BoJ’s previous assertion that their inflation targets are achievable,
proclaiming that the BoJ’s 2% CPI target will not be achieved until at least
2017. Currently, economists are in agreement with the IMF, and predicting
further BoJ easing later this year.
In surprising news, the GBPUSD fell towards its lowest valuation in over a
month, following a week of mixed economic performances from the United
Kingdom economy. The week ended on a positive note, after a survey from the
Confederation of British Industry (CBI) announced the strongest level of
economic growth in over a decade. However, this survey was released after
the GBPUSD record losses, following the news that mortgage approvals
declined in April.
Previously, BoE Governor Mark Carney raised eyebrows when he emphasized that the UK housing sector posed one of the biggest risks for the UK economy,
hinting towards the consensus that the UK economic revival had been driven
by consumer lending. With the BoE set to disappoint the bulls by maintaining
interest rates at 0.5% this coming Thursday, further GBPUSD losses could be
Elsewhere, the Reserve Bank of New Zealand previously announced their
dissatisfaction with the higher valued Kiwi, indicating that it would lead
to worsening fundamentals for their economy. Last week’s economic
disappointments provided validity to their assertion. New Zealand’s Trade
Balance missed the $636 million expectation, registering in at $534 million.
Further data displayed that exports declined by 6.5% last month, with
imports rising by 5%. Further economic weakness was displayed when business
confidence declined sharply last month. Overall, since the RBNZ made their
dovish comments, the NZDUSD has fallen around 250 pips.

What to Watch this Week:

The upcoming week will likely witness a significant increase in market
volatility, with a highly anticipated interest rate decision from the ECB,
and a US jobs report standing out as the events more likely to have a
significant impact on the currency markets. Interest rate decisions are also
released in the coming week from Australia, Canada and the United Kingdom.
In reference to the ECB, the EURUSD has already depreciated by nearly 500
pips (3%) since Mario Draghi stated during last month’s ECB policy meeting
that if inflation levels show no signs of progressing, the ECB are
“comfortable” with acting in June. Since Draghi’s threat last month, a
continuation of EU metric data has alerted the bears, and 90% of economists
are predicting another interest rate cut this coming Thursday. Only 8% of
economists are expecting the ECB to introduce asset based purchases (QE).
Interestingly, nearly 95% of economists asked by Bloomberg are expecting the
ECB to become the first major central bank to introduce negative deposit
rates (though that was not specified as expected to happen this month).
The other major market mover over the next week will be the release of the
latest US Non-Farm Payrolls. Last month’s NFP was their strongest in the
past 5 years, and within the last month, we have witnessed a consistent
decline in Initial Jobless Claims. As mentioned in our previous market
report, there are emerging indications that the Federal Reserve is beginning
to transition towards offering a more hawkish outlook regarding the US
economy. Another impressive NFP will facilitate this process. Currently,
economists are estimating that just over 200,000 jobs were created within
the US economy last month.
Although the majority of attention over the upcoming week will be focused on
the European and American markets, we are also expecting volatility from
Australia. This coming Tuesday, the RBA will announce their latest interest
rate decision, where they are expected to leave rates unchanged at a
record-low 2.5%. However, the key event risk from Australia could in actual
fact be Wednesday’s GDP announcement.
During the latest RBA minutes, the Reserve Bank of Australia set alarm bells
ringing when they disclosed that the Australian economy is set to welcome a
period of weaker than expected economic growth. This has worried onlookers
that Wednesday’s GDP release may fail to meet expectations.

*Ahmad is chief market analyst at FXTM.

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