Sterling and Yen Remain Key Drivers in FX

The US dollar is broadly mixed against the major currencies.  The Swiss franc’s 0.25% gain puts it at the
top of the board, after sterling’s earlier gains were largely unwound in
late-morning turnover.  

The yen is the
weakest major; extending its loss by 0.6%, to bring the weekly decline to more
than 5%.
  The pre-referendum result high
for the dollar was near JPY106.85. 
Today’s high has been about JPY106.30. In emerging markets, we note that the Taiwanese dollar is at 11-month
highs, helped by $3 bln portfolio capital inflow this week.    

MSCI Asia-Pacific equity index was up
0.35%.
  It has been up every session this
week.  European shares are struggling
with the Dow Jones Stoxx 600 off 0.5%, led
by consumer discretionary and information technology.  Travel and leisure pressure was linked to the terrorist attack.  Asia-Pacific and European bonds are trading
with a small downside bias, while US Treasuries are flat ahead of the slew of
data.  

This week has largely been about sterling’s sharp recovery and the yen’s
drop.
   After dropping like a rock on news of Brexit, sterling
jumped 3.6% this week, the biggest advance in more than a decade.  It was
helped yesterday by the BOE’s stand pat decision.  

The yen has gone in the opposite direction.  It has lost 5%
against the dollar.  It has not seen a weekly decline of this magnitude in
more than fifteen years.  Ideas that Japan will double down on Abenomics
with new stimulative monetary and fiscal measures, with some risk of
“helicopter money” whatever that means, encouraging yen sales and
Japanese equity purchases.    The Nikkei gained 9.2% this
week.  

It is not clear if Bernanke proposed that the Japanese government issue
non-market perpetual bonds which the BOJ buys, or if his comments did not
undermine such preexisting proposals in the internal discussion among
policymakers. 
   Even if this is a possibility, it is not a
near-term course.  The BOJ, like many other central banks, are barred by
their charter, to buy bonds directly from the government.   
Nevertheless, if the Abe government opts for a JPY10 trillion fresh water
debt-financed spending program and the BOJ increases its JGB purchases by JPY10
trillion, the immediate results would be the same.  

In any event, the key takeaway is that
investors
are anticipating new monetary and fiscal stimulus in Japan,
and this is the driver of the yen’s weakness and the equity surge.
 
The BOJ meets at the end of the month, and details of the fiscal plans will
likely around then as well.  

Although the BOE did nothing yesterday, it strongly indicated it would in a few weeks.  Specifically,
the explicit reason offered for that decision was the need “to look deeper
into various possible packages of measures.” This seems to imply more than
a rate cut.  Many expect around GBP50 bln in new asset purchases, which
some suggest could include corporate bonds, and perhaps new funding-for-lending.  
The scale of the BOE’s action will be determined
by the new forecasts that will be part of the Quarterly Inflation Report next
month.  The sense that more than a 25 bp rate cut is likely was driven
home by BOE Haldane’s comment that “material easing is likely to be needed
in August.  

Separately, China reported a host of data that was mostly better than
expected. 
If recent developments have boosted the chances of more
stimulus from Japan and the UK, today’s data means that China’s policymakers
may have less of a sense that urgent action is needed.  China’s economy
grow 1.8% in Q2 for a 6.7% year-over-year pace. Industrial output rose 6.2% in
June after 6.0% in May.  Economists
had expected a further slowing.  Retail sales jumped to 10.6% year-over-year
from 10.0% in May.  Here too the market expected weakness.  The investment was the exception.  It
slowed to 9.0% from 9.6%.  

However, the price of this economic performance was a surge in new
loans. 
New yuan loans rose to CNY1.38 trillion from CNY985.5 bln in
May.   The broader measure, which includes non-bank financial
institutions (shadow banking) jumped to CNY1.63 trillion from CNY660
bln.    What this indicates is that Chinese officials are still
not facilitating the deleveraging that some many observers and investors think
is necessary.  

After
a rather subdued week for US economic reports, investors are bombarded with a
barrage of reports today.
 
The most important of which is June retail sales.  The risk is on the downside, and the market already knows that auto sales slowed
sequentially.   The GDP component rose 0.4% in May and is expected
to rise 0.3% in June.  If so the Q2  monthly average would be about 0.5%, which is
nearly double Q1 average, which doubled the Q4 15 average.   

The
US also reports June CPI.
 
The core rate is expected to be steady at 2.2%.  Industrial output and manufacturing are
expected to recoup all or most of the 0.4% decline seen in May.   May’s business inventories will be helpful
in calculating Q2 GDP, but is unlikely to be a market mover.  The Empire State manufacturing report will be among the first reads of Q3
activity.   In that vein, University of
Michigan’s offers its preliminary estimate of July consumer confidence.  A  fall
in inflation expectations could offer Treasuries
some support after a heavy week that saw 10-year yields rise 10 bp. 
 

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