Currencies Wait for the EU Summit

Good day, and welcome to another scorcher here in the Midwest. Chuck isn’t feeling well today, so I just got the call to get something out to all of you, which means this will be very short and, hopefully, sweet. As I mentioned, it’s going to be a hot one for us today. We’re supposed to have Phoenix-type weather in St. Louis, with the mercury rising to 107 degrees. It’s supposed to be a dry heat, which does make a big difference, so we’ll see if today goes down in the record books.

The dollar has been heating up so far this morning over thoughts the EU summit in Brussels won’t accomplish anything other than what Chuck called yesterday a ‘plan to have a plan.’ The market likes to play both sides of the fence, but so far this morning, they aren’t anticipating anything that would have an immediate or significant impact on the debt crisis. So the focus for today looks to remain in Europe. The rise in yield for the Italian 5-year and 10-year bond auction to 6.19% from the previous 6.03% figure didn’t help matters, either.

As the dollar starts strong out of the gate this morning, that means the other half of the odd couple, the yen (JPY), is sitting on top of the currency leader board. The flight to liquidity/safety is driving both the U.S. dollar and the Japanese yen higher, as the EU summit isn’t expected to bring much resolution to the fragile global outlook. The risk-averse trading pattern that rewards the USD and the JPY looks remain intact until we see two things, which I think would be something concrete coming out of Europe and anything that would resemble any type of QE action from the Fed.

While the yen is at the top of the list this morning, the Norwegian krone is bringing up the rear. Talk about polar opposites. If you took a blind taste test of the economic fundamentals and fiscal situations in each country, the situation would be much different. It kind of reminds me of that car insurance commercial where passersby take a sip from two glasses, where one is obviously sweet and the other looks to be very sour. In this case, the Norwegian economy has been holding together fairly well, and combined with the huge surplus in their back pocket, it would be an easy choice to select the krone over the yen if you were blindfolded.

The problems in Europe and risk aversion have been a drag on the krone (NOK), but we did have some not so good news out of Norway this morning. The June unemployment rate unexpectedly rose for the first time since January, to 2.4% from the previous reading of 2.3%. Most reports that I see don’t expect this to be an ongoing trend, but the central bank does expect registered unemployment to average 2.5% this year. The rise to 2.4% in nominal terms doesn’t sound any alarms for the domestic economy, but the focus still sits squarely on the shoulders of the eurozone. The central bank did increase their GDP forecasts a couple months ago and did signal interest rates hikes could take place as soon as the first quarter next year.

We did see Japanese retail sales increase by an annualized 3.6% in May, but the overall picture doesn’t change. Speaking of another economy that has plenty to deal with, Chris Gaffney just gave me some thoughts on Britain. Data released this morning in the U.K showed their current account deficit was much worse than the expected 8.5 billion shortfall. The U.K. current account deficit for the first quarter was 11.2 billion pounds (GBP), and the 2011 Q4 deficit was also revised lower. The data sent the pound sterling lower, with the $1.55 level looking like it is in danger. The U.K. economy is struggling as it feels the impact of the eurozone debt crisis.

In other news out of the U.K., the Bank of England warned consumers that banks would be passing along higher borrowing costs in the coming months. A report released by the BOE this morning stated, “The elevated cost of wholesale funding for banks has continued to be passed through to spreads on secured household lending, and lending to firms” and “spreads are expected to rise markedly on lending to firms of all sizes.” Not good news for U.K. consumers and businesses, higher rates in a slowing global economy. I would expect the BOE to try to combat these rising interest rates with an announcement of the expansion of their quantitative easing after their policy meeting on July 4/5.

There wasn’t much to talk about on the economic front here in the U.S., but the last revision to first-quarter GDP didn’t yield any changes, as it remained at 1.9%; however, the personal consumption measure was revised downward to 2.5%, from the previous figure of 2.7%. The usual Thursday fare of initial jobless claims didn’t give any warm and fuzzy feelings. The number did fall from last week, but the trend has been heading in the wrong direction. The initial jobless claims fell to 386,000, from last week’s revision to 392,000, but the upward revision to just under 400,000 really caught my eye. I haven’t seen much that would point toward a healthy June jobs number, but we won’t know for sure until next Friday.

Then There Was This: Ahead of Thursday’s EU summit, a Reuters poll found expectation that the European Central Bank will reduce interest rates next week to a record low and that other measures will be taken to soothe markets. In addition, survey participants think nascent steps toward a eurozone banking union, perhaps even a fiscal union, will be made, even if only in vague terms.

Told you this would be short and sweet.

To recap: It’s going to be a hot one here in St. Louis, but the dollar has been heating up as well so far this morning. The market isn’t expecting much from the EU summit, so the debt concerns still remain, while Italian bond yields are on the rise. The flight to liquidity gave the yen a boost, but retail sales improved in May. Norwegian unemployment ticked upward a bit, but most reports aren’t calling this a trend. The British current account deficit increased and the pound is teetering on the 1.55 handle. First-quarter GDP in the U.S. didn’t change, but personal consumption was revised downward. Employment is stuck in the mud.

Mike Meyer
for The Daily Reckoning

The Daily Reckoning