Forex Update - USD

The US dollar strengthened on Friday as key technical levels for EURUSD broke down, triggering heavy USD buying by short-term accounts. Other wise economic developments on Friday were not sufficient to justify the scale of Friday's USD move. Economic data was limited to consumer credit for July, which was stronger than expected.

Meanwhile Fed President Pianalto explained her reason for a pause at the Aug. 8 FOMC. She said that the effect of the previous FOMC rate hikes had not yet been fully felt and she judged that a pause was appropriate to accumulate further evidence to decide on whether to proceed with further tightening.

Three Fed speakers deliver their views today, the trade balance is on Tuesday, retail sales is on Thursday, and CPI is on Friday. Also Treasury Secretary Henry Paulson will speak on the international economy on Wednesday.

Finally the G7 meets on Saturday and the IMFC (International Monetary and Financial Committee) on Sunday capping a week of events that are key to views on the US slowdown, global imbalances and the need for a weaker USD.

We would not view last week's strength in the USD as a sign of what to expect, but rather a bout of position adjustment ahead of event risks. Also, 2-year spreads have moved in further favour of EUR over USD over the past week, even while EURUSD has broken down (Eurozone two-year yields are up by 11bp versus just 5 bp for the US). Also the JPY has remained relatively resilient to USD strength, no doubt in part due to expectations that the strength of EURJPY will feature heavily in discussions at the G7.

We Expect EURUSD at 1.30 and USDJPY at 114 over 1 month.

Looking ahead to today's session and while there is no data scheduled, three Fed officials will be speaking. Fed President Minehan speaks at 1200 GMT, Governor Kohn speaks at 1515 GMT, and President Poole speaks at 1630 GMT