Fundamentals Ahead of the FOMC

By FX Empire Analyst - Barry Norman
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There was little eco activity of any consequence today, while in the early hours all eyes were focused on Germany, but once that was done, traders turn to the next attraction, tomorrows FOMC meeting.

Germany's constitutional court declared Germany's participation in the European Stability Mechanism (ESM) to be within its constitutional rights.  This continues the court’s bias in favor of not standing in the way of initiatives like the EFSF, aid packages to specific countries like Greece, and now the ESM.  All the court had to do today was to state whether it would suspend approval of the ESM while reviewing objections over coming months, and it chose not to do so.  This would have otherwise delayed ESM implementation until early next year and raised market apprehension over the viability of the whole funding apparatus and related initiatives. 

That opens the way for the ESM to be signed into law by German President Joachim Gauck and for it to be operational by next month.  It also removes one impediment to a Spanish request for aid from the troika (ECB, EC and IMF) since why bother admitting a problem in need of assistance if there are doubts about the ability to deliver it.  In addition, approving the ESM was an impediment to conditional bond buying by the ECB given that the condition was that stressed sovereigns must first apply for aid from the troika including through the ESM.  The only obvious caveat is that the court said that any further increases in German funding for such an apparatus must be approved by parliament, and cannot be limitless which is similar to its prior rulings.

Elsewhere in Europe, was a surprise out of Great Britain, with jobless claims falling by 15k in August and the quarterly change in employment increasing to +236k. The catalyst for the strong jobs data is somewhat of a mystery in light of the fact that UK GDP has contracted for three straight quarters the new jobs are not just centered on Olympics-related hiring in London. Year to date employment is up over 400k in the UK as a whole, of which 124k jobs are in London, which implies that while there has been an ‘Olympics effect,’ the growth looks to have been fairly well distributed around the country. In light of the weak underlying economic growth over the past three quarters, there is a sense that the jobs boom is simply unsustainable.

French inflation came in at 0.7% m/m on higher energy prices and the end of the summer clothing sales. Of note, food prices fell in contrast to developments in Germany and Italy, where higher food commodity prices are passing through into retail costs.

The rub is that with inflation throughout Europe running somewhat higher than 2% (even Germany’s CPI is running at 2.1%), the ECB will need to tread more carefully as it uses monetary policy to address the European financial crisis – soft inflation is no longer a reasonable justification for monetary policy.

Eurozone industrial production rebounded during July, growing by 0.6% m/m after contracting by 0.6% m/m in June. The rebound was led by capital goods output with most other categories declining. Does this mean that Asian demand for European capital goods is rebounding?

But let's be honest at this point markets are only paying attention to one thing, with all eyes and ears glues on the FOMC decision, statement and speech tomorrow afternoon. As hours count down, traders are positioning themselves ahead of the release. No one knows for sure what to expect from Mr. Bernanke and company, there are several different programs that could be announced, volume and size will also be important and the FOMC can determine to do a little now and a little later or bring in the big guns all at one time. 

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