Dollar Recovers on Fed comments

 After a very strong non-farm payrolls report on Friday, it is not a surprise to see the U.S. dollar trading sharply higher as of yesterday morning. At the end of the week, it appeared the lack of meaningful economic data from the U.S. was likely to lead to profit taking and consolidation. However, the dollar has also benefitted from weekend comments by Federal Reserve President Warsh who made a point to say that the central bank did not make an “unconditional or open-ended commitment” and specified that if “certain objectives are satisfied, purported benefits disappoint, or potential risks threaten to materialize,” the Federal Reserve could alter its policies. These comments simply continued the skepticism and flexibility associated with a central bank that is not entirely convinced that additional large scale asset purchases will do the trick. The Fed is still taking an ‘adapt as you go’ approach which undermines the dovishness and conviction of their last policy action.  Risk appetite will suffer from the fact that the central bank is doubting their latest policy action less than a week after announcing it.

 Meanwhile the euro is down sharply this morning due to mixed economic data and sovereign debt worries. The cost of borrowing in Ireland for 10 years hit a record high after a report in a local newspaper said Ireland could be frozen out of the debt markets and will be forced to use the European Union’s Financial Stability Facility (EFSF). Yet China has offered to help Portugal rise out of the financial crisis which could limit the slide in the euro. Portugal will be selling bonds on Wednesday and a failed auction would undoubtedly rattle the markets. However, with President Hu saying that “We are available to support, through concrete measures, Portuguese efforts to face the impacts caused by the international financial crisis, and deepen and broaden our economic and commercial cooperation,” there is a good chance that the auction will be met sufficient demand. In the meantime German economic data was mixed with a larger than expected rise in the trade and current account balances offset by a surprise drop in industrial production. Despite the strength of the euro, exports rose 3.0 percent while imports fell 1.5 percent, helping to widen the trade balance to EUR 16.8B from EUR 9.0B the previous month. The rise in the current account balance was even more dramatic with the surplus reaching EUR 14.0B in September from EUR 5.0B in August. After 2 months of weaker exports, we have finally seen a rebound that reflects the improvement in external demand. The drop in industrial production does create worry as it could potentially be more of an indicator of German economic activity as opposed to trade.