Afternoon analysis 07.01.2015

The euro dropped to its lowest in eight years after inflation data. The dollar strengthened as ADP report fuels expectations before Friday's labor market data. The zloty stabilized at low levels.

All today's reports was in favor of the dollar. The EUR/USD fell to 1.18181 – the lowest level since January 2006.

Eurostat said that inflation stood at minus 0.2 percent on a yearly basis in December – less than 0.3 percent expected by analysts. In November inflation was 0.3 percent. It was first yearly price drop in five years.

However, a deeper insight into the data revealed that inflation developments in not fully in favor of the full quantitative easing. The core inflation reading was higher than expected – it stood at 0.8 percent against 0.6 percent projected and 0.7 percent in the previous month. This figure revealed that a low inflation is a result of drop in fuel prices (due to cheap oil) and the deflation scope is rather narrow.

Given this observation, one concludes that there risk of a broad drop of prices in the economy, that may lead to contraction of economic activity, is rather tamed. Thus, this situation curtailed arguments for adherents of the full quantitative easing. As a result, the European Central Bank may be more wary when deciding to use QE and the scope of the program may be smaller than in would have been otherwise.

Unemployment reveals rifts in the euro zone

Next to inflation data Eurostat showed unemployment figures. The report revealed a wide gap between countries with heal economies (and stable public finance) and countries that are on the other side of economic landscape.

The unemployment rate in the euro zone stood at 11.5 percent in December – in line with expectations and no change from the previous month. However, there is Austria and Germany on one side (with unemployment rate of 4.9 percent and 5 percent, respectively) and Spain and Greece on the other (22.3 percent and 25.7 percent).

Above the European Union average (10 percent) were France (10.3 percent) and Italy (13.4 percent). Thus, to the major euro zone economies (following Germany) posted poor results and do not give any clear reason that situation may turn positive in the near term.

The persistent weakness of the labor market – next to deflation and reluctance to credit – is one of the major reasons for the European Central Bank to introduce the QE. It the United Stated and in the United Kingdom similar actions of the central bank proved to be efficient – the unemployment rate in these countries dropped to pre-crisis levels.

ADP announced solid data

The ADP report on employment change in the US private sector was better than estimated. Companies added 241k of employment – more than 227k expected and 227k in the previous month.

Today's report was a positive premise before Friday's report from the Labor Department. Non-farm payroll rose 240k in December, according to analysts' expectations, after very good result in November, when companies added 321k of new employment. The data provided additional support for the dollar.

The zloty stable at low level

The zloty's volatility is smaller that it was lately. In next few days it will continue to diminish. However, the Polish currency will rather stable at a low level against the euro and may post more losses against the dollar. The likelihood that zloty will gain in the near term is rather small. The EUR/USD is at its eight year lows and the risk aversion is prevailing, what creates not supporting conditions for the zloty.

The Monetary Policy Council will decide on interest rates in the next week. Monetary authorities will be asked to asses the latest drop of the zloty. If the MPC says that is concerned of the recent zloty's drop, it may support the Polish currency. However, until next Wednesday the zloty will remain under influence from broad market trends, what put the domestic currency in negative position.