Yen Weakness Continued, Dollar Directionless On Fiscal Cliff Swings

The Japanese yen continued to be the weakest currency in an otherwise rather mixed week last week. Eurozone finance ministers finally finalized the deal for Greece bailout but that didn't provide the needed fuel for euro's extension of its rally against the dollar. Meanwhile, overall markets lacked a clear direction, just have been volatile of fiscal cliff swings. European majors did try to resume their recent rally against the dollar but could not sustain the gains.

Meanwhile, the Canadian dollar and Australian dollar were both range bounded. The Dollar Index was trapped in tight range between 80.0 and 80.5. In other markets, the Dow suffered an intraday week selloff but managed to close above 13000 level. Gold dropped back to close at 1712 while crude oil still couldn't find the momentum to break through 90 psychological level.

Technically, the down trend in yen is weakening somewhat as December 16 election approaches. But as long as 81.68 in USD/JPY, 105.27 in EUR/JPY and 130.45 in GBP/JPY holds, bear term outlook in yen will stay bearish. However, note that a break of any of the mentioned levels will be an early sign of bottoming in yen. Similar picture is seen in dollar-Europeans.

The dollar would stay weak as long as 1.2879 in EUR/USD, 1.5961 om GBP/USD and 0.9340 in USD/CHF holds. But similar, break of any of these levels would be an early sign of bottoming in dollar. In Crosses, EUR/GBP and EUR/AUD extended recent recover but are both now close to near-term resistance levels and risk of reversal is increasing. So considering all factors, going EUR/JPY long is still the preferred choice initially this week but we'd need to be very cautious as the week goes as dollar and yen might bottom and euro could top in crosses.

The US markets have basically been engaging in fiscal cliff swings last week and sentiments flipped flopped. At the end of the week, president Obama warned of "prolonged negotiations" in resolving the issues. House Speaker Boehner was direct and said that "there's a stalemate, let's not kid ourselves." It's now having just a month for Obama to solve the fiscal cliff issue. The OECD warned that "if the fiscal cliff is not avoided, a large negative shock could bring the U.S. and the global economy into recession." And there would be a "significant drop in activity in 2013."

Also, OECD said that "reducing the large federal budget deficit is necessary to restore fiscal sustainability, but this should be done gradually and in the context of a well-identified medium-term consolidation plan." It said that "pace of consolidation should be gradual so as not to derail the already weak recovery."

The Fed's Beige Book suggested that "economic activity expanded at a measured pace in recent weeks." Yet, Hurricane Sandy and concerns about the fiscal cliff were key factors constraining growth during the surveyed period. While the housing market fared better, manufacturing activities weakened with 7 Districts reporting either slowing or outright contraction. Business owners explicitly stated that worries over the fiscal cliff delayed their business decisions.

Eurozone finance minister finally reached an agreement on Greece's fiscal consolidation and agreed that the disbursement of the next tranche of bailout fund would be done on December 13. The agreement reach by EU finance ministers includes 1) a plan for Greece to lower its debt to 124% if GDP by 2020 and below 110% by 2022.

This was in contrast with the IMF's request of 120% by 2020; 2) a reduction of interest rates by -100 bps on Greek debts; and 3) an extension of the maturities of loans for 15 years from other countries and the eurozone's bailout fund, the European Financial Stability Facility, and a deferral of interest payments by Greece on EFSF loans by 10 years.

Greek finance minister Yannis Stournaras said that the bond buyback program will be launched early next week. The operation is expected to be finished by December 13, before release of the next tranches of bailout fund of EUR 43.7b in four installments from December to March. Greece will need to spend around EUR 10b from EFSF to buy back around EUR 30b debt and thus, lowering the outstanding obligations by around EUR 20b.

ECB said in legal opinion that it considers "Article 127(6) of the Treaty constitutes the appropriate legal basis for rapidly and effectively conferring specific supervisory tasks upon the ECB." That is, the treaty does allow ECB to be the regional bank supervisor. And the central bank said that the so called single supervisory mechanism should comply with six principles. Those include, firstly, not risking ECB's reputation; secondly, maintain independence; thirdly, straight separation between monetary policy and bank supervision; fourthly, have full resources to knowledge, expertise and operational resources of national supervisory authorities; fifthly, consistent with principles of single market and single rulebook; and sixthly, comply with highest standards of accountability for the supervisory tasks.

The ECB also said it expects reaching agreement on supervision proposals by end of 2012. From January 1, 2013, ECB should have handed the power to oversee all 6000 eurozone banks as part of the banking union. And operational implementation would gradually occur over 2013 with full implementation completed by January 1, 2014.

BoE warned in its financial stability report that "progress by banks in raising capital has slowed and investor confidence remains low." And, "market concerns are likely to reflect in part uncertainty about bank capital adequacy." Also, it said that "UK banks' capital buffers, available to cushion losses and maintain the supply of credit following realization of a stress scenario, are not as great as headline regulatory capital ratios imply." Though, BoE Governor Mervyn King said that the "problem is manageable, and is already understood at least in part by markets."

It was surprising that current BoC head Mark Carney will succeed Mervyn King as BoE's Governor from July 2013. It is difficult to predict the outlook of monetary policy in the BoE under Carney. Paul Tucker was originally tipped as the leading candidate for the post. But it's reported that the Libor scandal and undermined his bid and eventually caused him this top post. Yet, Carney has been regarded as an innovative "policy pragmatist."

For instance, Carney as the head of the BoC introduced the conditional rate commitment in 2009. It was the first G7 central bank to have made such an arrangement. It would like reasonable to forecast that the BoE would be more aggressive in QE implementation under Carney, although he has one vote, after all.

SNB president Thomas Jordan said that the swiss franc at current level still has a "high value." And he noted that this "burdens a lot of companies -- especially in a phase of moderate global economic growth". Jordan reiterated that SNB will defend the EUR/CHF 1.2 floor "with determination and is prepared to buy foreign currency in unlimited quantities."

The floor would shield Switzerland from "major damage" but he also warned that "the minimum rate is a response to exceptional circumstances and is not a remedy for problems of any kind or an instrument to fine-tune the economy." Also, as SNB's balance sheet expanded five times since 2007, there "fluctuations in value may be much greater in the future than they have been in the past," creating "substantial risks."

The Japanese cabinet approved a JPY 880b stimulus package, more than double of an earlier package announced back in October. The package includes JPY 132b for nursing homes, JPY 110b for jobs, JPY 95b for small business financing. Also, it will cover relief work and projects following the natural disaster in 2011. The cabinet expected the package to raise Japan's GDP by over 0.2% and create around 80,000 jobs.

Reserve funds would be used to fund the stimulus instead of issuing new debts. The main driving force behind yen's weakness is still expectation on BoJ easing. According to Nikkei newspaper's report, opposition LDP had an approval rating of 23%, much stronger than ruling DPJ's 13%, and that affirmed LDP's leader Shinzo Abe's chance of becoming the next prime minister after December 16 election. Abe reiterated his call for BoJ to inject unlimited cash until inflation reaches 2%.