Euro Zone Stagnates, But Euro Doesn’t Sell-Off

The euro zone economy stagnated in Q2, as the rest of the region offset the unexpected 0.2% contraction in the German economy. The implied yield of the German bund future dipped below 1.0%, though the yield in the cash market held in slightly better.  The euro itself, did not make a new lows.  Indeed, last week’s low for the euro (~$1.3333) remains intact. 

 In six of the past seven sessions, the euro has recorded lows between $1.3333 and $1.3349 (today).  That it has not fallen lows reflects, we suspect, market positioning and the over-sold technical condition.  During this period, the euro has been capped in the $1.3400-$1.3415 area.  A break higher, especially in context of the less than favorable economic news, would likely trigger stops, and sign a proper correction, rather than this flattish consolidation.  That said, the $1.3450-$1.3485 area may offer more formidable resistance.  

The Bundesbank has warned that the German economy stagnated in Q2, but the 0.2% contraction was still a bit of a shocker. The year-over-year rate slowed to 0.8% from 2.5% in Q1.  It marks the first time since Q1 13 that the stagnation of the French economy was better than German economic performance.  The French economy was expected to have expanded by 0.1%.  Details of the composition of the economic activity will be made in future releases.  

Separately, the ECB’s monthly report contained  new results of the Survey of Professional Forecasters.  Next year’s inflation expectation was shaved to 1.2% from 1.3%, while the long-term forecast edged higher to 1.9% from 1.8%.  These results do not contradict Draghi’s claim that inflation expectations remain anchored.  

At the same time, the July CPI was confirmed in line with the flash reading.  The year-over-year rate is at 0.4%.  Next month the ECB staff will update its forecasts.  The risk is that it will pare its 0.7% 2014 CPI forecast.