Eur/usd - page 109
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ECB's Noyer - Falling inflation increases deflation risk in Europe
European Central Bank policymaker Christian Noyer highlighted low and falling inflation on Monday as Europe's main short-term problem, saying it heightened the risk of actual deflation and could threaten economic recovery.
"The main challenge, of course, is low and declining inflation, with inflation expectations in the euro area drifting downward at short to medium-term horizons," Noyer, the French central bank chief and member of the ECB board, told the economic Conference de Montreal.
"This prevents adjustments in relative prices, an important mechanism to eliminate gaps in competitiveness, and it increases the risk of outright deflation, should a negative shock occur in the future."
It is puzzling that in the euro area inflation and growth are moving in opposite directions, he said: "As growth accelerates, inflation keeps going down."
To try to understand why, he looked at strong capital inflows into euro area economies in recent months, which had two opposite effects on financial conditions - lower long-term interest rates but an appreciation of the euro exchange rate.
"It's not clear whether the overall effect is positive. While nominal conditions are more accommodating in (the) euro area than in the U.S., real indicators point to a more restrictive stance," he said.
"We may see a perverse feedback loop develop, with low inflation, increasing real rates, capital inflows and exchange rate appreciation mutually fueling each other. The financial economy may be heading towards a bad equilibrium that would threaten the real economic recovery."
He said such a situation called for a real policy response, which is why the ECB brought in a series of strong measures last Thursday, including imposing negative interest rates on deposits
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Draghi Confined by China $4 Trillion Reserves: Chart of the Day
European Central Bank President Mario Draghi’s plan to weaken the euro to aid exporters faces a $4 trillion challenge: how to cope with China’s efforts to diversify reserve assets, most of which are now in dollars.
The CHART OF THE DAY tracks China’s total reserves, Treasury holdings and share of global foreign-currency reserves, along with the performance of the yuan and euro since the start of 2013. The People’s Bank of China buys dollars to help stop the yuan strengthening and these purchases helped boost its currency reserves by $126 billion to a record $3.948 trillion in the first quarter. China holds about a third of the world’s international reserve assets excluding gold.
“The euro’s strength has been a puzzle for much of 2014,” Steven Englander, managing director at Citigroup Inc. in New York, said in a June 6 e-mail interview. “One possible explanation relates yuan weakness to intervention by Chinese authorities. When this occurs, Chinese reserve holdings of dollars increase. In order to prevent the dollar share in reserves from rising, the authorities have to sell the dollar for other currencies, primarily the euro.”
The yuan slid 1.4 percent versus the dollar in February as China’s central bank sold the currency, contributing to a $47.1 billion increase in its foreign reserves. The euro jumped 2.3 percent that month. When China’s currency slumped to an 18-month low of 6.2676 on April 30, the euro gained 0.4 percent. The yuan closed at 6.2404 per dollar in Shanghai yesterday when the common currency traded at $1.3641.
Draghi is counting on a weaker euro to counter deflation and revive the region’s economy. When the currency climbed to the highest in 2 1/2 years on May 8, he stepped up his expressions of concern about its strength and said officials were ready to ease monetary policy.
“The Chinese authorities have not published second-quarter reserves data, but we note that periods of rising dollar against the yuan have also been periods of upward pressure on the euro. While the euro has underperformed when the yuan strengthened,” Citigroup’s Englander said.
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Italian Industrial Production 0.7% vs. 0.4% forecast
Italian industrial production rose more-than-expected last month, official data showed on Tuesday.
In a report, Istat said that Italian Industrial Production rose to 0.7%, from -0.4% in the preceding month whose figure was revised up from -0.5%.
Analysts had expected Italian Industrial Production to rise 0.4%
The EURUSD is below the 1.36 handle again
, but no clear direction 
. Choppy action all around 
!
Euro zone interbank lending rate drops to lowest on record
Euro zone overnight interbank interest rates fell to their lowest levels on record on Tuesday, while a sharp rally in government bonds started to ease for some countries.
Strategists said money markets were continuing to adjust to last week's cut in the European Central Bank's main interest rates and its promise of fresh liquidity for banks, which should help short-term rates stable.
"The ECB has given very strong forward guidance for the first two years, and all its measures work to pin front-end rates," said Michael Michaelides, rates strategist at RBS.
Spot Eonia fixed at 0.053 percent after markets closed on Monday, dropping below the previous historic low set in February 2013.
The European Central Bank cut all its main rates to record lows on Thursday, imposing for the first time negative interest rates on cash parked by banks at the ECB in an attempt to force them to increase lending to companies and consumers.
Other steps included the injection of around 170 billion euros into the banking system by halting tenders that withdrew funds spent on past government bond purchases, and a 400 billion euro ($544.86 billion) long-term loan scheme.
The tenders will be abandoned from next week, while the ultra-cheap four-year loans for banks - conditional on their lending to the smaller companies that are Europe's economic backbone - will be available from September.
Longer-term government bond markets saw a three-day rally since the ECB's meeting starting to peter out.
Greek bonds were the best performers, with 10-year yields dropping 15 bps to 5.58 percent, a level not seen since January 2010.
These new lows raise the prospect that Greece, which returned to markets in April for the first time since 2010, could soon issue more debt to help to stave off the need for a third bailout, Commerzbank said in a note on Tuesday.
Greece's government named economist Gikas Hardouvelis as finance minister in a cabinet reshuffle on Monday, signaling its intent to keep up a difficult reform drive demanded by the international lenders funding the country.
Elsewhere in the bloc, Italy's 10-year yields rose 4 bps to 2.74 percent from Monday's record low while Spain's dropped 2 bps to a new low of 2.57 percent.
Germany's 10-year yield - the benchmark for euro zone bonds - was unchanged at 1.38 percent .
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Market follows path of least resistance. 1.35 on the radar. Watch 1.3550 as it will set the tone today.
Poland tips 3.8% growth for 2015, highest in three years
Central European heavyweight Poland said Tuesday it expected its economy to expand by 3.8 percent in 2015, its strongest growth in three years, despite civil unrest in neighbouring Ukraine.
Prime Minister Donald Tusk's centre-right government approved the 2015 draft budget on Tuesday, according to an official statement.
The plans call for inflation to climb to 2.3 percent next year, ruling out long-term deflationary risks.
Inflation crept down to 0.3 percent year-on-year in April from an annual average 0.9 percent recorded in 2013.
Joblessness is forecast to drop to 9.3 percent next year from the current 12.5 percent.
But Warsaw analysts warn that sanctions against Russia over the Ukraine crisis risk dampening growth this year, which the government has forecast at 3.3 percent.
Poland's economy expanded by 1.6 percent last year, down from 1.9 percent in 2012 and 4.5 percent in 2011, as it geared up to co-host the Euro 2012 football championships with Ukraine.
Poland, a 2004 EU entrant of 38 million people, has clocked growth each year since 1992, just three years after the collapse of its communist-era economy.
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Further selling in the euro following the bearish trend
We’ve seen further selling in the euro this morning following quite a bearish couple of days. The pair has broken below the range that it was trading in before we saw the spike in volatility at the end of last week which suggests the bearish trend is still we a truly in tact. That said, the 4-hour chart suggests we may be about to see a correction in the pair, with the latest completed candle forming a hammer and the current candle looking a little bullish. Should we see a close above the midpoint of the candle that came before the doji, so above 1.3539, we would be left with a morning star formation, a bullish setup. At this stage there’s no evidence to indicate a trend reversal and therefore I believe it’s more likely to just be a correction. With that in mind, the key levels should be the major fibs from 6 June highs to today’s lows. The first of these is 1.3580, 38.2% retracement, followed by 1.3598, 50% retracement. The latter would strike me as more likely given that it lies so close to a round number, 1.36. It also falls close to the level that was previously providing significant support.
Will EURUSD test 1.35? Options defense + focus on weak EUR crosses (rather than vs the USD) keeping it above this level and weighing on the USD elsewhere. See my Daily Forex Trading Outlook. Forex Trading Outlook for June 11, 2014 - YouTube
French Region Reform Does Not Alter Near-Term Challenges
The French government's proposal to reduce the number of French regional governments to 14 from 22 does not alter the near-term challenges facing the regions, which reflect constraints on both revenue and expenditure flexibility, Fitch Ratings says. Over the longer term, the proposal could result in savings and greater liquidity for the fewer, larger regions that would result.
The amalgamation proposal is part of plans to save around EUR10bn over the next three years by eliminating overlaps among local and regional governments (LRGs). It would support the aim of giving the regions a bigger role in economic development, innovation and training by transferring some responsibilities down from the departments or central government.
However, the trend towards increasing the regions' responsibilities has not been, so far, matched by an increase in budget revenue. The changes come at a time of heightened financial pressure due to national efforts at fiscal consolidation. State transfers to all LRGs will be cut by EUR1.5bn per year in 2014 and 2015. LRGs are required to contribute to further expenditure savings worth EUR50bn planned by the national government by 2017.
The 22 French regions are already facing budgetary challenges following tax reform, sluggish growth, and increasingly rigid spending commitments in recent years. They have almost no tax leeway (there is only one direct regional tax), while automatic increases in staff salaries, and commitments made in previous years in areas such as high-speed rail have made it hard to contain operating and capital expenditure. We expect the regions' aggregate current balance to deteriorate in 2014-2015.
Another key measure to monitor is the Territorial Reform Act (or Act III), due to be debated in parliament later this summer, which will update the regions' budgetary framework. It may ease revenue constraints, by replacing state grants with tax revenues such as an increased share of value-added tax (cotisation sur la valeur ajoutee des entreprises, or CVAE) or other tax revenue to the regions, or by reducing the planned grant cuts. Without additional revenue, borrowing will accelerate. However, the regions' debt level is still relatively low, with a healthy payback ratio of around four years at end-2013. Stronger equalisation mechanisms have given some support to the weaker regions, while co-financed projects with central government can help fund capex. The French regions should continue to benefit from the strengths of the subnationals institutional framework, including strong supervision by the central government.
Over time, reducing the number of regions could be credit positive in helping the remaining larger regions achieve economies of scale and improved bargaining power with suppliers. Bigger regions with larger borrowing programmes - more comparable with Germany's Laender or Spain's autonomous communities - may also be better placed to tap a wider range of funding sources, for example via the commercial paper and bond markets and bank liquidity lines, and enjoy improved access to European development funds.
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