From the Wall Street Journal Europe's The Source blog:
The foundations for a euro rally are crumbling fast.
Yes, euro-zone data continues to surprise on the upside with even the latest money supply suggesting that banks are getting back into the lending business, albeirt slowly. And yes, the latest fundraising efforts from the ECB, Italy and even Portugal have all gone like a dream.
Euro supporters are also taking heart from the increasingly vocal ECB hawks, led by the bank’s likely-next-president Axel Weber. The hawks are calling for the end of the central bank’s longstanding special measures, which means that the ECB’s monetary policy could start tightening as the U.S. Federal Reserve’s policy continues to ease.
It isn’t surprising, therefore, that euro bulls recommend buying the single currency on dips in the hope that it will soon be making another attempt to clamber over $1.40 after slipping back to $1.3840 now.
However, any such recovery should prove pretty feeble.
In the first place there is the dollar. The Fed may well still need to ease policy, but the rate of easing–that is, the size of quantitative easing–is likely to prove much less than expected when the Fed finally unveils its plans next week. If so, this could trigger a massive unwinding of dollar short positions that have built up in recent months and knock the euro back down again quite sharply.
But perhaps a more insidious problem for the single currency is the growing gap within the euro zone itself. Hawkish calls for an exit strategy may well be justified by the rapid recovery in Germany and the region’s other major members, but the outlook for smaller peripheral nations continues to deteriorate rapidly, reducing their ability to withstand tighter monetary policy at this stage....MORE