EUR/USD: Euro Shrugs Off Weak Retail Sales

 | Nov 06, 2013 06:48AM ET

EUR/USD has gained ground on Wednesday, as the pair trades above the 1.35 line in the European session. Taking a look at economic releases, Spanish and Eurozone Services PMIs beat their estimates but the Italian Services PMI lost ground and fell short of expectations. Eurozone Retail Sales declined 0.6%, its weakest reading in nine months. We’ll get a look at German Factory Orders later in the day. There are no major US releases on Wednesday. On Tuesday, US ISM Non-Manufacturing PMI beat the estimate.

US key releases have started the week on a positive note. The ISM Non-Manufacturing PMI rose to 55.4 points in October, up from 54.4 the month before. This beat the estimate of 54.0 points. We’ll get a look at Unemployment Claims and Non-Farm Payrolls later in the week, and if these numbers are strong, there is sure to be talk of QE tapering in December, as the Fed has said on numerous occasions that the employment market must improve before QE tapering can occur.

Inflation indicators in the Eurozone continue to point to very weak inflation, which in turn signals sluggish economic activity. Eurozone CPI dropped to 0.7% in October, its smallest gain in three years. Eurozone PPI posted a paltry gain of 0.1%, shy of the estimate of 0.3%. Germany, the region’s largest economy, is also producing inflation numbers well below the ECB’s inflation target of 2.0%. Speculation is growing that the ECB could cut rates in order to boost growth, perhaps as early as this week, when the ECB holds a policy meeting.

The Eurozone continues to post weak inflation and low growth, and the markets are keeping a close eye on Thursday’s policy meeting. There is speculation that the ECB will reduce interest rates, something it hasn’t done since April. The argument against cutting interest rates is that with rates already at a record low of 0.50%, a cut of 0.25% might not have much impact. Other tools available to the ECB include a new LTRO or introducing a negative deposit rate. With all this uncertainty in the air, we could see some volatility from the euro this week.

The Federal Reserve met for a policy meeting last week, the first since Congress reached an agreement on the debt ceiling and the shutdown. As expected, the Fed said that it would maintain QE at current levels of $85 billion each month. However, the Fed's policy statement was less dovish than expected, as the Fed noted that the economy was expanding "at a moderate pace" and left the door open for QE tapering in December. However, the prevailing view in the markets is that short of a sharp turnaround in US numbers, QE tapering will be on hold until early 2014.