FX news and analysis 2nd Mar

USD

The dollar continued its rebound on Friday as a result of safety buying following a rise in risk aversion because of more bad news from Europe. This time it came from Spain, with Premier Rajoy saying that he would base the 2012 budget on a lower deficit target of 5.8% then the more ambitious target agreed with the E.U of 4.4%. Spanish bonds reacted immediately with yields on the 10-year bond rising to 4.90% although this was still well below the 6% + highs of the crisis. The dollar gained again after 25 of the 27 E.U countries signed the previously agreed fiscal accord. On the data front it was a light day with the only news consisting of commentary from Fed officials. Fed's Bullard speaking in Vancouver, was reported as commenting on the dual mandate and was of the opinion that the employment requirement should be dropped and only price stability should be maintained. Fed's Williams meanwhile remarked on the effect higher oil prices were having on growth although he didn't think they would make the economy stall. Nevertheless with the outlook for higher prices oil may become an increasingly negative factor.

EUR

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 The euro fell on Friday as euro-zone debt fears resurfaced. News from Spain increased concerns after the Prime Minister Rajoy announced that he would be basing the 2012 budget on a more manageable deficit (to GDP) target of 5.8% than the more ambitious 4.4% target previously agreed with the EU. The euro was also weighed down by data from the ECB which showed that a record 776.9bn euros had been deposited back with the ECB, revealing a reluctance on the part of the banks who borrowed the LTRO money to lend and generating concerns about growth and the potentially limited impact the operation might have on sovereign debt markets, which it had been expected to alleviate. On the data front German Retail Sales (Jan) were mixed revealing a worrying fall MoM of -1.6% vs 0.5% expected and 1.6% YoY vs 0.2% previous. The Euro-zone Producer Price Index YoY (Jan), meanwhile rose to 3.7% vs 3.5% expected although it was still lower than the 4.3% previous. Italian data was encouraging with Deficit to GDP down to 3.9% when a 4.0% result had been expected and 4.6% was the previous print; and annual GDP for 2011 showing a 0.4% rise when 0.3% had been expected, however, this was still a marked fall from the 1.8% of 2010 and still pretty marginal.

GBP

Sterling ended the week lower in most pairs, after risk appetite fell on further euro-zone fears after data suggested the possibility the region might be sliding deeper into recession. Yesterday's weak employment print and the admission by Spain today that it would not be modelling its budget on E.U deficit target but on its own easier to attain targets led to a sudden fall in confidence. The data from the ECB showing most of the LTRO money it loaned to banks had been deposited back with the ECB also weighed as it suggested the money would not be used to invest in more riskier assets – like peripheral government debt which still exhibits infeasibly high interest. Recent commentary from BOE decision makers, however, had slightly reduced the likelihood of a an increase in QE and no change in policy is expected next at next week's rate meeting. Other main data releases next week are the Services PMI on Monday given the importance of the Service industry in the U.K and then on Friday a welter of data showing Industrial Production, Manufacturing Production and Balance of Trade.

JPY

The yen continued to sustain losses against stronger rivals which on Friday happened to be the dollar and the pound, whilst only just outperforming the already weak euro. A bullish outlook for oil was one of the factors heavily weighing on the yen at the moment because of the government's reliance on imported fuels since it closed its nuclear reactors following the Fukushima disaster. The continuing threat of deflation in Japan was another headwind which was brought home by data today which showed a fall in CPI (Jan) of -0.1% and in Household Spending (Jan) of -2.3%. This has encouraged an extremely accommodative policy stance by the BOJ which up until now was in line with other central banks but now mark's it out – apart from the ECB. Governor Shirakawa, reinforced this position today when he pledged more QE until inflation reached the 1.0% target previously set. Overall the evidence is strongly pointing to continued yen weakness and next Wednesday could be an important day because of all the data out including 4th quarter GDP, which could increase the likelihood of further easing if it falls below expectations.