US Data Indicate Slow Economic Growth

The dollar stayed in the tight range in which it has been trading over the past week. The range of the dollar index over the past 5 days has been just 0.71%. Talk about stable markets! We had a plethora of data released here in the US yesterday, with most of the numbers coming in below expectations. The big number was third quarter GDP, which was reported at 2.6% compared to an estimate of 2.8%. While the number failed to reach economists upbeat estimates, it was slightly higher than the previous estimate of 2.5% growth. Personal consumption for the third quarter also came in below expectations with a 2.4% increase compared to predictions of a 2.9% rise. And the final piece of data in the GDP group, the GDP Price Index, rose 2.1% versus survey estimates of 2.3%.

So all of the data was below expectations, but we didn’t have any dramatic differences. The slower growth and lower price inflation numbers will undoubtedly encourage the FOMC to continue pumping money into the financial markets, which was good news for the stock jockeys. Economic growth just hasn’t been strong enough to make a dent in unemployment, and prices seem to be stagnant; so Chairman Bernanke will keep the printing presses running overtime in order to try and get the economy rolling. And as long as Bernanke is pushing liquidity into the markets, the dollar remains vulnerable. It is a simple case of supply and demand: the US continues to print and distribute more and more US dollars into the markets, and with interest rates remaining low the demand for these dollars has started to wane.

The GDP data was followed by a couple of reports on the state of the US housing industry, and like the GDP numbers, the data failed to meet expectations. Existing home sales were up 5.6% versus last month and against expectations of a 7.1% rise. The one bright spot of the data yesterday was the House Price Index, which showed a small 0.7% rise last month compared to expectations of lower prices. While the jump in existing home sales was nice, these sales include many homes that have hit the market through the foreclosure process.

My family was in the housing business for over 35 years, and I was speaking with a family friend last night regarding the current state of things. In his opinion, the housing market is going to need to put together a string of big monthly sales numbers in order to get through all of the existing inventory (and additional inventory which will be hitting the markets over the next few years). There are just too many factors working against homebuilders these days: a glut of existing inventory, tightened credit standards for new homebuyers, and even more inventory which will be hitting the market through foreclosures. I don’t think we can depend on the housing market to pull the US economy out of the “Great Recession.” The housing industry will take a few more years before it is even close to what it was at the turn of the century.

Today we will have another big day of data here in the US. Durable goods orders are expected to have fallen 0.5% during November, with the ex-transportation number expected to show a 1.8% increase. Personal income and spending will be released at the same time, and are expected to show small gains. Income is predicted to show a 0.2% rise in November versus spending, which is expected to have risen 0.5%. So it looks like the US consumer is starting back down the “borrow and spend” path. This is exactly what the administration wants consumers to do, and the spending will be good for the economy in the short term, but we continue to leverage our future for short-term benefits.

We will also get the weekly jobless claims, which are expected to show another 420K increase in initial claims. Continuing claims are expected to show a small decrease to 4105K. The employment market here in the US continues to be weak, and if this week’s numbers come in as expected, we will undoubtedly hear more calls for additional stimulus in order to get the US economy moving again. But employers want to see some good growth before adding additional workers, so don’t expect any big boost in the employment numbers until some time in 2011.

The U. of Michigan confidence number for December and new home sales figures for November will round out today’s data. The confidence number isn’t expected to be much different than last month’s number. The New Home Sales number is predicted to show a 6% increase over last month when we saw an 8.1% MOM drop.

So what will all of this data do to the currency markets? I really don’t expect us to move out of the tight trading range that we have established this week. As I have stated a few times over the past few days, trading desks are on autopilot right now, and none of the junior traders are going to want to place big bets one way or another. The only thing that would drive the markets would be a dramatically different data release, and none of this morning’s data look to surprise the markets.

The British pound (GBP) has been one of the worst performers versus the US dollar over the past few days. The pound sold off versus the greenback after a BOE official said that the UK economy would probably contract at some point next year. The BOE’s Markets Director Paul Fisher told The Daily Telegraph “it’s not impossible” the economy will contract for one quarter. Reports released yesterday showed that retail sales in the UK were down in December, and another report showed that third quarter growth was just 0.7% in the UK. This was slower than initial estimates, and with a week holiday shopping season the fourth quarter, it isn’t looking much better.

One number did exceed economists’ forecasts, but that wasn’t good news for the UK economy. Britain’s budget deficit continues to grow, and swelled to a record level in November. This large deficit is going to make it tough for the BOE to start raising rates to what BOE Director Fisher calls “more normalized” levels. The minutes from the last BOE meeting showed that officials were split three ways regarding interest rate policy. There were calls for increasing the stimulus and others who wanted to raise the interest rates. The majority voted to keep the policy unchanged, but “stood ready to change the stance of policy should the balance of risks shift materially.” The minutes said most of the members saw the risk of inflation increasing in the medium term.

While the dollar traded in a fairly tight range, investor sentiment seems to continue to shift back toward risk trades. The high yielding currencies of Mexico (MXN), South Africa (ZAR), Australia (AUD), and New Zealand (NZD) have been trading higher over the past few days. The Mexican peso rose to the strongest level in a month as economic growth quickened in the US. The Mexican peso has also benefited from a rise in crude oil prices.

The kiwi rallied from the lowest point versus the Aussie dollar in almost a decade. Officials in New Zealand are now predicting that economic expansion in the small island nation will accelerate next year. While South Africa had soccer’s world cup to help growth this past year, New Zealand will be hosting the Rugby World Cup Finals this year. Data showed that New Zealand’s GDP unexpectedly fell in the third quarter, but New Zealand Finance Minister Bill English said that growth will be higher next year. The lower third quarter growth will bolster the case for Central Bank Governor Alan Bollard to keep rates unchanged until sometime in the second half of 2011. Investors have traditionally purchased the kiwi for the interest rate differentials, and if rates remain on hold, the currency won’t outperform other high yielders, Rugby World Cup Finals or not.

The South African rand moved to an almost three year high versus the US dollar on yield advantages. The rand has been slowly appreciating over the past six months, and will probably close out the year as the third best performer versus the US dollar. Number one for the year will probably be the Japanese yen (JPY), with the number two slot occupied by the Aussie dollar. The yearly return data really shows how volatile a year this has been. The top five performing currencies have the two high yielding commodity currencies mentioned here along with the low yielding currencies of the yen, Swiss franc, and Singapore dollar (SGD). It shows you that we have had a risk on/risk off year!

Chris Gaffney
for The Daily Reckoning