There is a definitely a calm before the storm feeling in the FX markets today. Asian equity markets were mixed and Europe has had a confusing start. While the news flow over the weekend was broadly supportive of the EUR (baring the political developments in Ireland) , the EURUSD has steadily traded lower on the open. ECB Executive Board member Stark stated that he could imagine the EFSF recapitalizing banks or buying sovereign debt however, he slinked away from the Eurobond issue stating his concern that the new issue would blur the responsibility for every government to be held liable for its own debt.

The Eurogroup's Juncker stated that a complete response to the debt crisis would emerge in a few weeks, and the generally uncooperative German contingent sounded broadly supportive, stating the German government wanted to deliver a complete package in the next weeks. It seems that the market's overall sentiment is that an agreement will be reached in the near future (despite last week's ECONFIN meeting lacking any announcement of policy initiatives or difference in public comments), which has kept the EUR supported. While the EU officials were publicly parading the impending solution, the WSJ highlighted the EU inflation story stating 'Trichet Warns Price Pressure Is Increasing' giving ECB exit theorists further reason to believe that higher rates are closer then the market has currently priced in. We still expect further EUR upside when the policy initiatives are announced, however it seems from the reaction to Trichet's comments (front end Eurozone interest rates jumped higher) that we are shifting towards traditional monetary policy drivers such as growth / inflation dynamics.

On the economic data front, this week UK and US GDP releases stand out. With an eye popping UK CPI print, traders will be carefully watching the balance of growth activity (Tuesday's GDP preliminary q/q 0.5 exp vs. 0.7 prior) to see if the growth environment should warrant calls for tighter policy. The BoE Governor King has made it clear that MPC policy will not involve fine tuning, so strong growth could easily lead to a shift in language and the markets will quickly begin pricing in a string of rate hikes. On a side note, the other major UK release will be the minutes from the MPC minutes which potentially could provide some insight to the members' thinking. In the US, recent economic data has fueled general optimism about the recovery and even provided FX traders with the idea that the USD should be viewed as a growth currency. Friday's GDP is expected to support expectations with a q/q rise to 3.5 vs. 2.6 prior reading. However, should the number disappoint similar to the recent retail sales figures, the greenback might lose its remaining advocates.

That said there is growing concern that the divide between the republicans and democrats in the US congress has grown so large, compromise of economic austerity seems unlikely. With fears of the debt situation diminished in EU (for now) the focus has logically turned to he US. We have seen no real follow through in rates or FX prices, but the contentious debate on US debt limits could become the catalyst. As for today, we suspect that risk correlated trades should firm as a lack of economic data will have traders focused on the impending EU agreement.