By DailyFX - US Dollar - If the G7 meeting can be characterized as the main catalyst for the major sell-off in the US dollar...

... between April and May, then non-farm
payrolls will probably go down as the main culprit of the dollar’s weakness in June.

This morning, we learned that job growth in the US
economy last month was extremely weak. Falling short of even the most
pessimistic analyst’s expectations, US companies added only 75k jobs
last month, compared to an extremely lofty forecast of 170k. However
the bigger issue is not just how disappointing the payrolls number was,
but its potential impact on the US economy going forward. Consumer
confidence tends to have a very strong correlation with non-farm
payrolls and given the big downtick in payroll growth last month, it
would be surprising if confidence did not fall. Weaker confidence
usually means weaker spending as consumers worry about future earnings.
Ultimately this means that the Federal Reserve will have to rethink
raising interest rates in June. Fed rate hike expectations have now
fallen below 50 percent, indicating that over half of the market thinks
that the Fed will pause in June. To illustrate how bad the payrolls
number was, it was the weakest since October 2005 and according to Barry
Ritholtz, less than half of the monthly population growth. In addition,
of those people who do have jobs, they are working fewer hours in May
and their earnings growth was near flat. The unemployment rate did tick
lower from 4.7 percent to 4.6 percent, but it is widely known that the
household survey which publishes the unemployment rate tends to have a
larger sampling error than the payroll report. No matter which way you
slice it, this is a bad number and it is negative for the US dollar.
There is no doubt that the US economy is weakening and the Federal
Reserve is nearly done with raising interest rates. All the market
needs to see from now till the rate decision at the end of the month is
the consumer price index on June 14th. Inflation pressures have been
their solitary reason for remaining hawkish so if the CPI number shows
slower growth, it could slam the door on another rate interest hike.
Next week, the economic calendar is relatively light with only the
service sector ISM report and the trade balance worth watching. However
on Monday afternoon, Federal Reserve Chairman Ben Bernanke, ECB
President Trichet and Bank of Japan Muto will all be speaking at a
monetary conference in Washington. At this critical juncture in Fed
policy, the comments by the three major central bank officials will be
particularly important and could potentially cause more volatility for
the market in the week ahead.

Euro
The weaker US non-farm payrolls report has helped the Euro rally
significantly today but unfortunately the strength of the rally was not
large enough for the move to mark a meaningful break of the pair’s
recent consolidation. Prices are stalling at the same highs that the
pair topped out at on May 12 and 15. Nonetheless, the move still looks
constructive and 1.30 remains the path of least resistance both
fundamentally and technically. Stronger inflation numbers this morning
continues to fuel the debate of whether the European Central bank will
be raising rates by 25 or 50 basis points. Producer prices increased
0.8 percent in April with the pace of growth in March also upwardly
revised from 0.4 percent to 0.5 percent. This past week, the market’s
primary focus was on the US, but in the upcoming week, Europe will run
the show. The US economic calendar is light while the Eurozone economic
calendar in comparison is jam packed with important economic data. Not
only are we expecting a key central bank rate decision where the market
is divided on the potential outcome, but we are also anticipating retail
sales, industrial production, service sector PMI reports and trade
figures from many important countries within the Eurozone. The ECB rate
decision should not be underestimated because even if the ECB only
delivers a quarter point rate hike, if they hint that more is to come,
the Euro could continue to rally as the market anticipates continued
tightening by the central bank which is positive since it comes at a
time when the Federal Reserve is nearing the end of their tightening
cycle.

British Pound
Riding on the coattails of broad dollar weakness, the British pound has
performed strongly against the US dollar today. However against the
Euro it struggled to recuperate earlier losses. The construction sector
has been performing well in the Eurozone but in the UK, activity fell
from 53.7 to 52.7, which was more than the market initially anticipated.
The previous strength in UK economic data is coming more into question
which makes next week’s BRC retail sales, industrial production and
trade balance reports even more important. The Bank of England will
also be holding a monetary policy meeting next week. They are expected
to leave interest rates unchanged at 4.50 percent and when they fail to
make any changes, they also do not make any statement. Therefore, it
should be a non-event.

Japanese Yen
The Japanese Yen ended the day stronger against the US dollar, but
unchanged against most other currencies. The only piece of data
released overnight was money supply, which saw the biggest drop since
1971. This confirms the Bank of Japan’s continual removal of
liquidity from the market as a part of their process of ending
quantitative easing. There is barely any data on the Japanese economic
calendar next week which means that the yen will probably leave its
short term fluctuations to the other majors. Deflation still persists,
suggesting that any interest rate hikes will not come until the fourth
quarter at the earliest. Also, with the yen so strong against the
dollar, the BoJ will probably be even more cautious in fear of causing a
shock to their export dependent economy.


Kindest Regards,

Kathy Lien
Chief Strategist
Forex Capital Markets LLC
32 Old Slip, 10th Floor
New York, NY 10004
Tel (212) 897-7660
Fax (212) 897-7669
E-mail: klien@fxcm.com

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