Weekly ActionForex (Jan 11-15): Euro Broadly Lower on Greece Concern, More Downside Ahead

Key Developments last week: (a) Euro was broadly pressured last week on growing concern of Greece's large deficits and doubts over its sovereign creditworthiness, in particular after ECB Trichet made it clear that there will not be any special treatment to a signal member of the Eurozone, (b) Yen rose against most major currencies on risk aversion on as China stepped up its measures to cool lending, (c) Sterling, on the other hand, was supported by speculations that BoE will let the asset purchase program expire in February.

Dollar was initially pressured by risk appetite, but later rebounded strongly, with the help of weakness in Euro and crude oil.

As expected, the ECB meeting offered no surprise to the market on both economic outlook and monetary policy. The central bank kept the main refinancing rate at 1% and stated current interest rates are ‘appropriate. Moreover, the Eurozone’s economy will expand at a ‘moderate’ pace while inflation outlook remains subdued.

Regarding the fiscal health of Greece, Trichet said it has "a lot of hard work to do," and warned that "no government, no state can expect from us any special treatment." Nevertheless, when talking about Greece's exit of Eurozone, Trichet said he wouldn't comment on an "absurd hypothesis". Instead, Trichet said that ECB would carefully examine Greece's steps to slash the deficit over three years to below 3%.

Greece presented a three-year budget plan to EC that includes more than EUR 10 billion euro in deficit-reduction measures for this year budget shortfall. But markets are skeptical about the workability of the ambitious plan. German Chancellor Angela Merkel also said at a private forum that Greece’s fiscal crisis poses a "very difficult phase" for the euro.

The Japanese yen was broadly higher last week on risk aversion, in particular against European majors. Also, the yen was supported by China's act to step up the measures to cool lending.

• China raised bill yields second time in a week to tightening liquidity further. PBoC sold benchmark 1-year bill at 1.8434% today. Last week, PBoC raised yield on three-month bills to 1.3684%.
• In addition, PBoC said it was raising reserve requirements ratio by 0.5 percent points which now clearly indicates that China is begging to tighten monetary policy.

Sterling, on the other hand, was supported by comments from BoE Sentance and was relatively firm during the week.

BoE MPC committee member Andrew Sentance said in an interview with Guardian

• that "at some point you have to say we have increased the amount of stimulus enough. It doesn't mean you are going to withdraw it but you don't have to keep adding to it."
• Also, he said that impact of oil and commodities prices, and sterling, on inflation need to be considered and the bank is approaching a point that need to "hold back and wait and see" how stimulus is "flowing into the recovery".
• He also express his confidence that there is little risk of a "double-dip recession" in UK.
• The comments triggered speculation that BoE will let the asset purchase program expire in February.