FX: How US Retail Sales Could Rock the Market

Friday's US retail sales report is one of the most important pieces of data on this week's economic calendar. The Federal Reserve meets next week and this number will play a crucial role in shaping expectations for the central bank's forward guidance. Economists are looking for a recovery in spending but there are plenty of reasons why the data could miss. First and foremost, labor market gains are easing according to last month's jobs report. Wage growth is also slowing, gas prices are lower and the 6% decline in stocks in May are all reasons why consumers would have been reluctant to spend last month. Despite the record breaking moves in stocks and the low unemployment rate, Americans never felt wealthy. Retail sales growth was modest throughout 2018 and turned negative in December. Since then, spending fell 3 out of the last 5 months. Federal Reserve Chairman Powell is trying to put on a brave face by saying the economy is growing but his comment that they will "act as appropriate to sustain expansion" is a sign that he is concerned. So if tomorrow's retail sales report falls short of expectations, it could rock the FX market and send the dollar plunging against all major currencies. Fridays are always active days for currencies and with a Fed meeting right around the corner, we could see a particularly big move in the greenback. USD/JPY has been trading in a tight range throughout the month and the retail sales report could kick off a lasting breakout.

Meanwhile we are seeing signs of a near term top in euro. After consolidating at 2 month highs for most of the week, EUR/USD dropped below 1.13 on Wednesday and spent all of Thursday trading below this key level. Eurozone industrial production declined like we anticipated but President Trump's threat of sanctions on Germany is the primary reason why euro traders need to be worried. We are not sure how far the US President will take this threat or when he'll mention it again but Trump told reporters yesterday that the gas pipeline between Germany and Russia "really makes Germany a hostage of Russia if things ever happened that were bad." The fear by many nations is that if Germany were to move ahead with the pipeline, it would allow Russia to easily cut off energy to Ukraine or pressure Western European nations. Trump is also threatening to cut American troops because "We're protecting Germany from Russia, and Russia is getting billions and billions of dollars in money from Germany." Deteriorating US-European relations would not be good for the euro but at the same time, we just don't know how serious the US is about imposing sanctions on Germany.

All three commodity currencies also traded lower today with the Australian dollar leading the slide. According to our colleague Boris Schlossberg, "Australian data beat its mark today coming in far better than expected, but the currency sold off on the news as the headline data hid the underlying slowdown in labor demand.Australian jobs printed at 42K versus 16K eyed, but almost all of the gains came from the lower value part-time jobs, with full-time jobs only expanding by slightly more than 2K in May. The market read the news as a disappointment especially since the unemployment rate climbed from 5.1% to 5.2%, with traders betting that the RBA may be forced to cut rates once more in August in order to avert a further slowdown in demand.Labor demand in Australia has been surprisingly robust despite global trade tensions that have put its export-led economy in danger, but today's news suggests that the jobs engine may be finally sputtering as the escalating tensions between the US and China are starting to take their toll on business investment and confidence." The focus shifts to the New Zealand dollar tonight with NZ PMI manufacturing numbers scheduled for release. Given the central bank's recent interest rate cut, the slowdown in Australia and China's economy along with lower dairy prices, the risk is to the downside for NZD/USD.