Daily currency analysis
The dollar again found support close to 1.4740 against the Euro on Wednesday and strengthened steadily to highs just beyond 1.4650 in US trading before settling around 1.4660. With no significant US economic data releases, speculation over economic direction was an important influence.
Goldman Sachs issued a report stating that they expected a recession, but other institutions were more optimistic. Fed Governor Poole expressed major uncertainty over the economic situation, but was still relatively optimistic over 2008 trends while he expressed some caution over the inflation outlook. Comments from Fed Chairman Bernanke will be very important for dollar direction on Thursday.
Fed funds futures did not move in the dollar's favour on Wednesday and the rally suggests increased defensive US currency demand as risk aversion and global economic doubts increased.
International influences will continue to be important for the dollar. There was a further 1.2% drop in German retail sales for November after a 2.3% decline the previous month. Although the industrial orders data was robust yesterday, production recorded a further 0.9% drop for the month. The weak consumer spending data will reinforce speculation over a sharp Euro-zone slowdown.
Assuming the ECB holds interest rates unchanged on Thursday, the bank's statement will be watched very closely for hints on future policy. The ECB will certainly want to maintain a tough approach on inflation, especially as it will want to influence wage negotiations. Nevertheless, the bank is also likely to be increasingly cautious over the growth outlook which would tend to undermine the Euro.
The yen was unable to sustain gains beyond 109.0 against the dollar and weakened back towards 109.60 in early Europe on Wednesday. The Nikkei index recovered from early lows which curbed immediate yen demand on risk grounds. There was also further evidence of the importance of retail yen selling as internal positions against the Japanese currency increased to a two-month high.
The impact was magnified by strong expectations that the Bank of Japan will not be in a position to increase interest rates over the next few months, reinforcing the lack of yield support.
The yen was still protected by further declines on Wall Street, although the Japanese currency was unable to take full advantage. Dollar support above 109.0 suggests that yen demand has eased at least to some extent, but volatile trading conditions will persist.
Sterling continued to weaken on Wednesday with fresh record lows against the Euro around 0.75 while there was a drop to a 10-month low against the US dollar near 1.9550.
Consumer confidence edging lower again in December while there was also evidence of a slightly weaker labour market in the latest KPMG survey. Sterling was also damaged by a weak sales report from leading retailer Marks & Spencer's. Fears over the spending outlook will reinforce near-term pessimism over the economic situation.
There will be strong market expectations of an interest rate cut in the first quarter of 2008. The Bank of England decision on Thursday is liable to be very close with growth fears offset by unease over inflation. The bank is traditionally reluctant to act in January and money markets have fallen while the MPC will not want to bow to political suggestions that a cut is possible.
Sterling will weaken sharply if rates are cut, although there could be a quick recovery given the amount of bad news priced in with volatility likely to be a key feature.
The dollar found support close to 1.11 against the Swiss franc, but struggled to hold gains above 1.1150 as the franc moved stronger towards 1.6330 against the Euro.
Degree of risk aversion remained the dominant influence and the franc secured some further support from a decline in stock markets. European retailing stocks came under strong pressure which helped underpin the Swiss currency on defensive demand.
The Australian dollar pushed to highs around 0.8850 against the dollar in local trading on Wednesday. The domestic data offered support with retail sales rising 0.8% in November after a revised 0.3% increase previously which maintained confidence in the economy. A recovery in the Nikkei index also helped support the currency with some interest in carry trades.
The Australian dollar was unable to sustain the gains and weakened back towards 0.88 in New York as global growth doubts put some downward pressure on commodity prices. The latest trade data will be watched closely and another record deficit for November would undermine confidence.