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Talking Points
•    Japanese Yen: USDJPY off  the lows as equity markets stabilize
•    Euro:  Moves towards 1.5800 in relatively quiet trade
•    Pound: CPI data cold but pound rises as risk appetite returns
•    US Dollar: PPI FOMC on tap

Euro and Pound Rise as Markets Stabilize – Will Fed Cut by 100bp?
A sense of relative calm returned to the currency markets after yesterday’s upside reversal in the DJIA helped soothe investors nerves, leading to recoveries in Nikkei, Footsie and the DAX.  With no important economic data on the calendar, the EURUSD traced out a tight range in Asia and early European trade as mild return of risk appetite sent EURJPY higher and pushed EURUSD back to the 1.5800 level as a result

Meanwhile, UK inflation data printed a bit cold with core CPI coming in at 1.2% vs. 1.4% expected. Nevertheless the headline numbers continue to register well above the 2.0% BoE targets and as such most analysts believe that UK monetary policy makers will be quite reluctant to ease interest rate aggressively. The market will get a better read on MPC’s intentions when BoE minutes are released tomorrow.  For the time being, stabilization in equities helped cable to regain the 2.0100 figure as risk appetite improved.

The marquee event today will undoubtedly be the FOMC interest rate decision due at 16:15 GMT. Only two weeks ago consensus called for a 50bp cut, but given the bailout of Bear Stearns and continued stress in capital markets, the fed funds futures are pricing in a near 100% risk of 100bp cut – an unprecedented amount of easing by the Fed especially at current low interest rate levels which would in effect decrease the cost of burrowing by 33%.
 
With markets already expecting such a massive rate cut, it’s difficult to gauge if the move has already been priced in. The EURUSD may drop in the aftermath of the announcement in a classic “sell the news” mode.  Nevertheless, the longer term impact of Fed’s action is not likely to be dollar friendly.  If US rates decline to 2% the EURUSD rate spread will widen to a full 200bp with little evidence that it will have much of a positive impact on US growth.  The path of least resistance continues to the upside in the pair and only a series  of nasty economic surprises from the EZ is likely to sabotage that one way trip.

Will G-7 Authorities intervene if dollar drops further?  Join us in EURUSD Forum.

To discuss this article please contact Boris Schlossberg, Senior Curency Strategist: bschlossberg@fxcm.com