Dear IMF, Do We Have a Deal or Not?

After months of anticipation, the Greeks finally got their act together and agreed to all of the Trioka’s harsh austerity measures but unfortunately it was not enough.  The announcement of a Greek deal should have had a big impact on the EUR/USD but the currency pair’s gains were limited by the amount of the concerns from the IMF and other Eurozone nations. Rather than applauding the breakthrough by the Greeks, European leaders spent most of their airtime expressing skepticism.  The problem is that Greece has not provided sufficient information to assure creditors that their deficit reduction targets can be met and therefore it has been impossible for Euro area Finance Ministers to make a quick decision on releasing aid.  The IMF in particular is worried about any potential changes in economic policies if a new leader is chosen in the April elections. They also want Greece to implement plans that they pledged in return for the first bailout payments before providing additional financing. Eurozone nations who had already been reluctant about greater financial commitments were quick to signal that if the IMF doesn’t have faith in Greece, neither do they. Germany’s Finance Minister said that the Greek deal on spending cuts is “insufficient” because their plans to cut spending are not enough to fulfill bailout conditions. Ireland’s Finance Minister also agreed that there are “gaps” in the “logic” of the Greek deal and so he cannot say that a deal has been completed.  The IMF appears to share this view according to Gerry Rice, the head of IMF communication who said the next step is to continue discussions with the Greek authorities and European partners on the overall program. Other countries such as Austria also want to see the implementation of the first package before approving a second. With so much opposition, an immediate endorsement of Eurozone Finance Ministers appears unlikely and an approval by the German Parliament is far from a done deal. Rather than diminishing the uncertainty, the Greek deal raised more questions and highlighted the amount of hurdles that need to be overcome for Greece to avoid a default. The price action of the EUR/USD suggests that even though investors may be nervous, they remain optimistic that everything will be sorted out by March 20 th because no one wants to witness a Greek default. In the meantime, expect the Greek debt deal will to continue to dominate the headlines and the market’s appetite for euros over the next 24 hours.

As expected, the ECB left interest rates unchanged at 1.00 percent. According to ECB President Mario Draghi, tentative signs of stabilization have now been confirmed, inflationary pressures are broadly balanced and the region no longer faces “substantial” downside risks. These comments suggest that the central bank has grown slightly less pessimistic which should have been positive for the EUR/USD if not for their plans to expand collateral rules to include more trivial and riskier assets.  As Draghi admits, the decision was not unanimous and will require stringent risk management because the ECB is playing with fire. The decision was clearly aimed at allowing more collateral to be posted for this month’s LTRO. With a major LTRO operation set for the end of the month, the prospect of continued liquidity and cheap money should keep credit markets supported and the EUR/USD bid. For the time being, the EUR/USD is struggling to break above 1.33 but if and when the bailout funds are released, the EUR/USD will be trading closer to 1.35.

USD: MORE SIGNS OF IMPROVEMENT IN US ECONOMY

With the S&P 500 rising to its highest level in 7 months, we expect the U.S. dollar to trade lower against most of major currencies but the greenback barely budged against anything except for the Japanese Yen. This suggests that the participation level in yesterday's bounce was low with many investors still waiting for a clear resolution before jumping into any new positions. There is little to report on with regards to developments in the U.S. outside of weekly jobless claims. For the week of February 4th, claims fell to 358k from 373k, which is just a hair above 3.5 year low. The four week moving average dropped to 366k while continuing claims rose slightly to 3.515 million. The jobless claims report is consistent with a gradual improvement in the labor market but the Federal Reserve's lack of faith in the sustainability of the improvements downplayed the significance. The trade balance and the University of Michigan consumer sentiment reports will be released on Friday. We expect both reports to show continued improvement in the U.S. economy. According to the ISM, manufacturing activity in the U.S. is on the rise with increases in new orders and export orders. This bodes well for the U.S. trade balance and suggests that the deficit may not expand as much as economists expect. At the same time, consumer confidence may have increased further in the month of February based upon the IBD/TIPP Economic Optimism index which rose to a one year high. Good data will help to boost risk appetite but may not do much for the U.S. dollar.