FX.co ★ US economy is at risk, which heightens the possibility of reflation. Overview of USD, CAD, JPY

The ISM index in the services sector, which is one of the main indicators of the US economy, rose from 55.9% to 57.2% in December. The new orders index also increased by 58.5%, followed by the growth of the supplies index to 62.8%. The latest data indicate that the services sector is recovering, which is a positive signal for the US dollar.

At the same time, the trade balance declined to 68.1 billion in November, which turned out to be significantly worse than forecasted.

The United States did not buy Saudi oil for the first time since September 1985. This means not only a transition to its own production (considering Mexico and Canada), but also a decline in demand from industry, which is reflected in the degradation of export-oriented sectors of the economy.

The dynamics of TIPS bond yields are worth noting, which clearly indicates rapidly growing inflation expectations.

Such dynamics may provoke markets to reassess the Fed's rate plans, which will mean an earlier end to the period of dollar's weakening than what was predicted earlier.

Positive dynamics in the labor market should confirm higher inflation. There was a negative ADP report yesterday, but on the contrary, the latest weekly data on unemployment claims turned out to be significantly better than forecasted.

There was a risk to see today's Nonfarm report noticeably better than what the market expects. While expectations are weak, the forecast for employment growth is only 71 thousand, due to the lack of dynamics in the unemployment rate and average wages. So, better-than-expected release of data will provoke demand for the US dollar.

It seems that the dollar prospects will clear up in the coming days. Thus, we should expect comments from Fed officials and the new head of the US Treasury, Ms. Yellen. The threat of an earlier rate hike will put more pressure on the budget to service the already excessive debt. And with plans to expand fiscal stimulus, the threat of reflation may become too clear for markets to ignore.

USD/CAD

The Canadian dollar expectedly updated its low, however, there are fewer reasons to further decline this morning than at the beginning of the week.

The Canadian dollar will receive support as long as oil prices remain above $ 50 per barrel, and US stock index futures continue to rise. Therefore, a further decline in the USD/CAD after the correction looks slightly more possible. The bearish trend remains, as the market has not seen clear signals to end the dollar's weakening. The low of 1.2627 is expected to be updated, with a target of 1.25.

USD/JPY

The Japanese economy fails to look for a foothold, which indicates its current state. Jibun Bank's services PMI firmly consolidated below 50p, particularly at 47.7p in December, while spending continues to decline.

However, where does the spending growth come from if the change in November's wages was -2.2% y/y? The question still remains. The consumer confidence index, in turn, declined to 31.8p, which is the lowest value since the first wave of the pandemic and is around to what was observed in the summer- autumn 2008.

The reason clearly lies in the coronavirus factor. On Wednesday, Japan set a new record of infections – there were more than 6,000 cases per day. Therefore, Prime Minister Yoshihide Suga declared a state of emergency in Tokyo, which will start from Friday until February 7, but there are lesser restrictions unlike in most European countries.

Judging by the latest CFTC report, we still have a bullish trend for the yen. However, the previous events for the last two days about the total victory of Democrats in the United States, have suspended demand for defensive assets. The estimated price has lost direction, which may indicate the end of the momentum.

A USD/JPY pullback to the 104th mark is still within the general downward channel. There are possible attempts to continue growth and a consolidation above the level of 104.80 will mean a transition to a horizontal channel. In this case, reasons to update the low of 102.60 has become less. If there are attempts to decline, buying can be considered in the zone of 102.70/80, with a target of 105.50.