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Jobs Report Obliterates Record Deficit...for now

US non-farm payrolls grew by 243K in February from a revised increase of 170K in January, while the unemployment rate edged up to 4.8% from revised 4.7%. Average hourly earnings grew 0.3% from 0.4%. The revisions for the January and February payrolls totaled an increase of 12K.

The rebound in jobs emerged from the 198K increase in services (94K more than in January), 39K increase in professional business services (22K more than in January) and the 38K in government jobs (67K more than in January). The recovery in those sectors played a major role in more than offsetting the loss of manufacturing jobs and the retreat in construction hiring, which emerged after the disruptive snow storms of February.

Average hourly earnings rose 5 cents in February to $16.47, registering a 0.3% increase from January's 0.4% monthly increase. The year-to-year growth rose to 3.5%, the highest since September 2001, surpassing the previous February 2003 high when oil prices soared amid mounting uncertainty ahead of the Gulf War II. Interestingly, the real rate of average hourly earnings - adjusted for inflation -- stands at -0.4%, when using last year's monthly average of CPI y/y at 3.4%, suggesting that hourly incomes are failing to keep up with inflation. This has occurred despite the fact that average hourly earnings have increased alongside the fed funds rate since summer 2004, but not sufficiently to stem the pace of rising prices.

Record trade deficit to revisit next week

Thursday's release of the US trade deficit showed a 5% rise to a record $68.5 billion in January from a revised $65.1 billion (initial $65.7 billion) in December. Imports rose 3.5% to $182.9 bln -- while exports rose 2.5% to $114.4 billion.

The 4% rise in the average unit price of crude followed a 5% and 7% decline in December and November respectively. Petroleum imports rose 4.3% to $24.6 bln, or 13% of total imports, close to our prediction made last month when we noted that "the 13% increase in crude prices in January (as measured by the West Texas Intermediate), followed by the 5% increase in December will probably lead to a rebound in oil imports back to the $25 billion mark". Imports of crude oil edged up 1.4% to $15.7 mln. But the 13% rise in oil prices in January is the largest percentage monthly increase since August.

Looking forward, the February trade deficit could breach the $70 bln mark if it grows by its average monthly growth of 1.4% since January 2003, which is likely to remove as much as 0.4% from GDP growth.

As opposed to December bilateral trade gap, which stabilized with the US' major trading partners with the exception of Canada, the January trade gap deteriorated with all major trading partners with the exception of the UK and Japan, which fell 42% and 5% respectively. The trade gap rose 10%, 11%, and 9% with China, Canada and Mexico to $17.9 bln, $8.9 bln and $4.6 bln respectively. The trade gap with OPEC rose 12% to $8.5 bln.

The US bilateral deficit improved with major trading partners in the month ending in December with the exception of Canada, where the deficit rose 5% to $8 bln. The trade gap fell 12%, 7%, and 2% with China, Japan and the Eurozone to $16.3 bln, $6.8 bln and $7.5 bln respectively. The picture looks less bright a 12-month basis as the trade deficit fell with all the major trading partners, with the exception of the UK.

Although the record trade deficit was lost in teh shuffle of today's jobs release, the external imbalance story could make a comeback next week, when the January report from the Treasury on foreign capital flows (TICS) will shed more light on whether the US continued to rely on hedge funds for the capital account part of its balance of payments. The December trade deficit was unable to be "covered" by hedge flows--even by trade funds. The January version should draw sufficient interest.

Today's jobs report pushed the dollar to 1-week high against the euro, 4-week high against the yen and 8-week high against the pound sterling. Besides a 100% probability of a 25 bp rate hike on March 28, there is more than 50% chance of a similar move in the May meeting to 5.00%. These evolving market expectations are undoubtedly dollar positive, especially if the Bank of Japan takes its time to implement its decision to tighten policy.

But a little digging enables us to see a strong performance by the euro against the pound and the yen this week. EURGBP closed the week at its highest level since January 6, while EURJPY closed at its highest since February 10. Hawkish remarks by ECB's Nickolas Garganas indicating that the central bank deems inflation risks to be on the rise does increases chances for at least 2 rate hikes by mid summer.

Recall that the ECB has just raised its inflation projections to a 1.9%-2.5% range in 2006, noting last week that "Risks to the outlook for price developments remain on the upside and include further increases in oil prices, a stronger pass-through of oil price rises into consumer prices than currently anticipated".

This sends a clear message to the markets. Despite the fact that Fed tightening may have two more lives left in it, there is a resurrection of the tightening story in the Eurozone, Canada and Japan, which prevents the dollar from waging the same aggressive rallies seen last year. This is already proven in the euro's recurring rallies at low end, as well as the loss of no more than half a cent after a stronger than expected US jobs report.

We stick with our expectations of a $1.1775-1.2200 EURUSD range till end of April, after which the markets have obtained greater clarity on the standing of the Bank of Japan policy shift and the repercussions of carry trade unwinding.

March 2006 FX Forecast
End of
Mar 2006
End of
May 2006
End of
Aug 2006
End of
Feb 2007
EUR/USD 1.2018 1.2150 1.2300 1.2400 1.2600
USD/JPY 117.53 116.00 115.00 113.00 109.00
GBP/USD 1.7501 1.7700 1.7850 1.8050 1.8200
USD/CHF 1.2985 1.2880 1.2600 1.2450 1.2250
USD/CAD 1.1402 1.1300 1.1250 1.1100 1.100
AUD/USD 0.7401 0.7480 0.7550 0.7620 0.7700
CNY/USD 8.03 8.03 8.17 8.17 8.18
  *Mar 6, 2006


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