ECB: Could they Raise Interest Rates? (page 1 of 2)

DailyFX Fundamentals 10-31-07

By Kathy Lien, Chief Strategist of DailyFX.com

Euro Touches 1.50 After FOMC

The Federal Reserve cut interest rates by 25bp and the US dollar dropped to a new record low against the Euro and multi-decade lows against the British pound, Australian and Canadian dollars. The amount of easing was exactly what we expected, but the FOMC statement is being interpreted by different people as neutral or slightly hawkish. The Fed acknowledged that growth has picked up in the third quarter and warned that the recent increases in energy and commodity prices could put renewed upward pressure on inflation. However at the same time, they said that the upside risks to inflation roughly balance the downside risks to growth. The price action in the markets today suggests that traders do not believe today's rate cut will be the Fed's last. In fact, PIMCO's Bill Gross told CNBC shortly after the rate decision that further cuts are needed for growth. According to the tone of the FOMC statement, the Fed is in no rush to cut rates, but they do leave the door open for further easing should it be needed. Interestingly enough, the most profound US dollar weakness has been against the commodity currencies. Gold broke $800 and oil futures hit $95 a barrel in after hours trading. Against the Euro, British pound and Japanese Yen, the dollar ended the US trading session only slightly lower than its pre-FOMC levels. With non-farm payrolls due in less than 48 hours, further dollar weakness could be limited. Private sector payrolls increased 106,000 last month according to ADP. This was much stronger than expected and suggests that non-farm payrolls could be as high as 125k in the month of October. GDP growth in the third quarter was also the strongest since March 2006, which are all reasons why the US dollar could see some short term strength. Also the statement indicates that financial market conditions are just as important as economic conditions - so keep on top of what the Fed watches with our new weekly report. Not all news today was good. Chicago PMI dropped back into contractionary territory, foreshadowing a possible decline in ISM tomorrow. We are also expecting the Challenger layoffs report and jobless claims, both of which will shed more light on Friday's payrolls. Don't forget about personal income, personal spending and PCE; all potential market movers.

USD/CAD at 50 Year Lows, Australian Dollar Headed for Parity

The biggest beneficiaries of US dollar weakness today are the commodity currencies. The Australian dollar rose to a 23 year high and the Canadian dollar hit a 50 year high! Oil and gold prices are both higher while Canadian GDP was stronger than expected. We once again reiterate that no trend in the currency is as strong now as the downtrend in USD/CAD. With 95 cents behind us, the next logical target is 90 cents and $100 oil is exactly what will take us there. In after hours trading, crude oil futures surged above $95 a barrel. There is no reason to fade this move. Meanwhile, the Australian dollar will be in play tonight with PMI, retail sales and the trade balance due for release. We are looking for stronger spending and a narrower trade balance thanks to low unemployment and a strong currency. This coincides with our view that the Australian dollar will be the next currency to reach parity with the US dollar.

ECB: Could they Raise Interest Rates?

The Euro touched 1.45 but we have yet to hear a word of caution from the European Central Bank.