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Forex markets: After a whole month on the rise (May), this week the dollar corrected

The ECB meeting helped the euro, but the “other” challenges now lie ahead: Spanish banks and Greece….   

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USD-  (nominal effective exchange rate) – After a whole month on the rise (May), this week the dollar corrected. The increasing chance of the Fed having to resume quantitative easing was one of the main reasons behind the dollar’s retracement, combined with a partial easing of risk aversion (see section below on the euro and the ECB). A host of US data releases are due next week – mostly expected to be poor – and Fed members will also speak. The calendar of events should not necessarily penalise the US currency, if not only modestly. In fact, the portion of risk aversion tied to uncertainty weighing on US growth could shield at least in part the dollar from important losses.

EUR – The euro recovered from last week’s lows in the EUR/USD 1.22 area, rising to around 1.26 on the day following the ECB meeting, but ultimately slipped again, stopping in any case in the 1.24 area. The ECB meeting benefited the single currency, as Draghi let on that the central bank is ready to act using the tools at its disposal, if necessary. The President of the ECB also made explicit reference to the possibility of an interest rate cut. However, before the next ECB meeting, the euro area will have to take on many other challenges, starting with recapitalisation of the banking system in Spain, for which the Spanish government seems set to formally request assistance over the weekend. Elections in Greece will follow on Sunday, 17 June, and the G20 summit on 18-19 June. Next week, the exchange rate trend will be guided principally by news flows on Spain, Greece, and the euro area crisis in general. Barring positive developments, downside pressures could again prevail. However, in the absence of bad news, the euro should not drop to new lows beyond the 1.2288 mark hit on 1st June. On the other hand, favourable developments on Spanish banks could restore the exchange rate to EUR/USD 1.26.

GBP – Sterling also recovered from its recent lows at GBP/USD 1.52, reaching a high ofGBP/USD 1.5601 in the wake of the BoE’s announcement. The BoE left rates unchanged and opted not to expand the APF. As downside risks to growth mostly stem from the euro area crisis, the BoE probably intends to await developments (impending) on that front. Therefore, sterling’s recovery should not be considered as definitive, and disappointing data could push it back down to between GBP/USD 1.54 and 1.52, and EUR/GBP 0.8100 and 0.8200.

JPY – A partial easing of risk aversion, and the statements made by Azumi on the damage caused by an excessively strong exchange rate, have weakened the yen from USD/JPY 77 to 79. The BoJ meeting is due next week, on which occasion the Japanese authorities could make a firmer stand – at least verbally – against the excessive strength of the currency. Any upside reactions to unfavourable developments of the euro area crisis should therefore be limited in scope and duration.

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