The US dollar is likely to extend this week's drop in the trading week ahead as economic data fails to convince investors the US economy is recovering fast enough to warrant demand for the greenback. Despite a rally on Friday, this week's record auction of $65 billion of Treasury debt and burgeoning fears of inflation are also prompting investor caution on the dollar as they feel they are in uncharted waters regarding US fiscal policy.
Rhetoric about finding a new global reserve currency to challenge the greenback is another slight weight on the dollar before a meeting in Russia of BRIC nations Brazil, Russia, India and China. The dollar got a one-day boost a week ago with the non-farm payrolls report for May showing sharply lower-than-expected job losses.
But there was no follow-through this week with the dollar losing 0.4 percent against the yen and the euro climbing 0.3 percent against the dollar on electronic trading platform EBS. "The numbers that came in, while they were somewhat stronger than expected, weren't really strong enough to be a game changer with respect to the US economic outlook," said Steven Englander, chief foreign exchange strategist at Barclays Capital. "It didn't change the view on risks of where monetary and fiscal policy was headed."
Some economic indicators beat expectations this week, including Thursday's initial weekly claims for jobless benefits and the headline retail sales number, excluding autos. And Thursday's Treasury auction saw a bid-to-cover ratio of 2.68 on the 30-year bond, indicating strong auction participation.
But "it remains a very tough dollar environment," Englander said. Investors are still uncertain about how long it will take for the US economy to recover and whether actions by the US government to stoke a recovery will in fact be a drag in the longer term, if debt yields have to rise to attract investors. Higher borrowing costs ultimately slow the rate of economic growth.
EURO'S RALLY STILL HAS LEGS While investors do see the possibility of the euro rally stalling as upward momentum declines, they don't believe that will happen next week. "On a macro basis, the euro should not be trading close to $1.41, but we're seeing capital markets concerns dominating macroeconomic concerns." Englander said.
"A sharp correction is unlikely, because it's going to be hard to eliminate concerns about the US policy situation, but closer to $1.35 would probably be more comfortable from a macroeconomic viewpoint." The euro was last trading at $1.40166 on EBS, while the dollar was at 98.26 yen on EBS.
Data in the coming week includes Treasury International Capital flows (TICS) for April on Monday, followed by the May Producer Price Index and May housing starts on Tuesday. The Producer Price Index is seen rising 0.6 percent month over month in the headline number, following a gain of 0.3 percent in April. Excluding volatile food and energy prices, May PPI is forecast up 0.1 percent month to month, matching April's 0.1 percent gain, according to economists polled by Reuters.
Housing starts are seen rising to a seasonally adjusted annual rate of 490,000 units in May from April's pace of 458,000 units, while building permits are expected to rise at a pace of 500,000 units, compared with 498,000 in April. May industrial output, also due on Tuesday, is expected to decline 0.9 percent month to month, the Reuters poll showed.
On Wednesday, the May Consumer Price Index will be released, with the headline number seen up 0.3 percent month to month, after April's reading of no change. Excluding food and energy, May CPI is forecast up 0.1 percent, after a 0.3 percent rise in April.
And while most investors believe Russia's central bank saying this week it would cut the amount of currency reserves held in US Treasuries and buy IMF-issued bonds is mostly rhetoric, they will still keep one eye on the BRIC summit in case of the unexpected. A G8 finance ministers meeting over the weekend is not expected to affect trading.