Dollar Rebounds after Russia Announces No Plans to Cut Oil Production (page 1 of 2)

US Dollar

It has been quite a week in the currency markets. The resilience of dollar bears proved to be too strong for bulls to handle as the key levels in the currency market (1.25 in EUR/USD and 120 in USD/JPY) continued to hold. Unlike yesterday where we saw broad dollar weakness, the lack of any US data today led to mixed price action.

The dollar continued to weaken against the British pound and Commodity currencies, but clawed back against the Japanese Yen and Swiss Franc. The EUR/USD on the other hand ended the day unchanged, reflecting the possible indecision in the markets. The main focus of the day was on North Korea and OPEC. China has toughened up its stance and has banned bank transactions between the two countries.

There have been reports that North Korea apologized for the tests, but the fact that his apology was reported by a South Korean new agency that cited a diplomatic source in Beijing, which is quite a number of layers, makes it questionable. In addition, the market continues to doubt whether OPEC members will actually follow the cartel's production cuts. The fear is that if oil prices continue to remain low, some of the smaller members would feel compelled to make up lost revenue by increasing production once again.

Russia has already announced that they have no plans to back OPEC's decision and will not be reducing oil production. There is an uncle point however. The Financial Times reports that the previous strength in oil prices has encouraged many members to overspend in increasing production. In order to meet its current pace of spending, Saudi Arabia needs oil prices to trade at a minimum of $38 a barrel which compares to $15 a barrel in the mid nineties.

Their costs continue to grow by 20 percent a year, which means that if growth continues at that level, by 2010 oil prices would need to be at $65 a barrel for them to breakeven. With the spread currently at $18 a barrel, down from a peak of $40 in July, Saudi Arabia is still making money, but the lower the price of oil goes, the more concerned they will be and the harder they will push for the major cuts. Oil prices are now trading at the lowest level in 11 months, which may help the dollar start next week on a firmer footing.

There are three main events that we are watching in the US next week which are Durable Goods, GDP and the Federal Reserve rate decision. Although no changes are expected in US interest rates, as usual, the FOMC statement could provide some clues on how far away we may be from another change in interest rates. More specifically, we will be looking for whether they put greater emphasis on the drop in headline inflation or the rise in core prices.

Euro

After yesterday's strong breakout, the Euro is virtually unchanged against the US dollar. The single currency has held onto nearly all of yesterday's gains on a day that was devoid of meaningful economic data. Switzerland reported stronger than expected producer and import prices but the Swiss franc has lost value against every single currency except for the Japanese Yen. Over the past week, we have seen more evidence of possible slowing in the Eurozone economy, which would give the central bank reason to pare back their plans to tighten interest rates.

It is with near certainty that the central bank will be lifting interest rates at their next meeting, but if economic growth does not accelerate and oil prices remain low, core prices will eventually begin to reflect the softer inflation pressures.