IFO Below 100 Euro Hurt

On the surface the IFO survey printed slightly better than expectations at 104.9 versus 104.3, but the headline number hid the vast divergence between present and future expectations which weighed heavily on the EUR/USD once the currency market had a chance to process the information. While the Current Assessment component rose to a six year high of 111.3 the Future Expectations section of the report dropped to 98.9.

This was the first time this particular reading fell below 100 since November 2005 indicating that European business leaders are far less optimistic about the future prospects of EZ economy than its present state of affairs.

One key factor that worries most European businessmen is the forthcoming increase in German Value Added Taxes from 16% to 19%. The increase is expected to take effect early next year and most analysts fear that it could have a significant dampening effect on European consumer demand which is only now showing signs of resurgence after years of stagnation.

Some speculators held hope that the market-oriented government of Angela Merkel would delay or perhaps even abandon the tax increase, but her refusal to consider this idea is clearly creating angst in the German business community as the date of the tax hike approaches.

Some analysts have even suggested that the current buoyancy in demand may be partially the result of the oncoming tax increase as consumers stock up on goods ahead of the event. In short, this sense of foreboding by many market players regarding the future robustness of the Euro-zone recovery helps explain why the EUR/USD reacted so negatively to a seemingly positive economic report.

Today's other event risk takes place at 14:00 GMT when US Consumer Confidence numbers are released. The market expects a solid increase to 103.0 from 99.8 the month prior and given the fact that gasoline prices are materially lower that assumption seems reasonable.

However, the confidence numbers may be dented by the slowing employment picture and the continued decline in housing prices. It will be interesting to see how the familiar tug of war between these two countervailing forces expresses itself in the most recent consumer attitudes.

If confidence improves the dollar may see further gains, if however the number surprises to the downside the greenback rally will likely stop dead in its tracks and we may find ourselves at a standstill once again near the 1.2700 level.