Key Points
EUR-USD downside risk remains.
Global liquidity is alive and well - higher real interest rates are needed.
ZEW survey today's main data feature.

Market Outlook
EUR-USD attempted to stabilise in early European trading, with the market responding to the lack of downward follow through to the weakness seen yesterday. There may also be some apprehension about the possibility of a strong ZEW survey, which is the only release of interest on today's schedule (see below). The 1.3440 level has just about held for now, but downside remains favoured in the short-term (to 1.3340). Above 1.3500 is required to introduce a sense of stability, while any move through 1.3530-45 would be a more positive sign. A secondary move below 1.3440 would be damaging in the shortterm, while the ability of the USD index to make it above 82.60 (yesterday's high was 82.51) will also be significant.

The JPY remains steady, with buoyant global markets and investor risk appetites the main factor supporting broadly negative JPY sentiment. The inability of a number of JPY crosses to push on through recent highs does raise some questions about whether current momentum is fading and the risk of some initial corrective activity. However, the increasing focus on China (and other official entities) as a fresh source of global market liquidity will continue to support global market sentiment for the time being and this could mean more eventual difficulties for the JPY, unless there is a sudden recovery in BoJ policy expectations.

Much of the focus on the build-up in FX reserves in recent years has been on the implications for reserve diversification, although there is also a basic liquidity issue. The pool of global liquidity that has been absorbed by official entities has grown dramatically in recent years (see chart) and more of this is likely to be recycled back into private sector asset markets over the coming years. On this basis the global liquidity machine is alive and well and will most likely require a much higher level of global real interest rates

Day Ahead
Eurozone - ZEW numbers are due today and the expectations component should recover further after the weakness seen in the second half of last year, when respondents were showing concern about 1) the possible negative impact of the German VAT hike and 2) the general ability of the German and Eurozone economies to sustain such strong growth. As it turns out, such fears have not been warranted thus far and the realisation of this favourable outcome has been allowing expectations to improve further, which should have continued in this latest month. Throughout this period of 'uncertainty' the current conditions balance has remained strong. Market impact is likely to be limited today, with most already well aware of the solid economic backdrop in the Eurozone. Weak numbers would be more of a surprise and would carry more market moving potential in current circumstances.

Diary
Data/event BST Consensus*
 
DE ZEW expectations (May) 10.00 23.0
EU ZEW expectations (May) 10.00 15.0
EU Trade balance (Mar, sa) 10.00 ?0.5bn
US Chain store sls (w/e May 19) w/w 12.45 0.8% last
US Redbook sls (w/e May 19) m/m 13.55 2.5% last
US ABC consumer conf (w/e May 20) 22.00 -7 last
US Fed's Lacker on inflation outlook 00.30
JP All-industry index (Mar) m/m 00.50 -1.3%
Latest data Actual Consensus*
IT Consumer confidence (May) 109.5 108.8
* Consensus unless stated