How Long on the long EUR/USD?

(expectations on) Interest differentials do indeed matter and with the recent unemployment report published in the US the accordingly dollar took another nose dive against the Euro as bets were raised that the Fed might finally bite the bullit and lower those interest rates.

(from Bloomberg - linked above)

The dollar fell to within a cent of the all-time low against the euro and dropped versus the yen after a government report showed U.S. employers added the fewest jobs in more than two years.

The U.S. currency also weakened to an eight-month low against the Canadian dollar and declined versus the pound and Swiss franc on speculation the Labor Department's data will increase the likelihood of a cut in borrowing costs by the Federal Reserve. Reports earlier this week showed pending home sales unexpectedly declined and inflation moderated in March.

Meanwhile, all this is of course relative since the recent data coming out of the Eurozone is not exactly bullish either with the recent evidence from the major service indices.

Expansion in European service industries, the biggest part of the economy, unexpectedly slowed for a third month in April, led by France and Italy.

Royal Bank of Scotland Group Plc's services index fell to 57 from 57.4 in March. The index is based on a survey of purchasing managers by NTC Economics Ltd. and has held above 50, indicating expansion, for 46 straight months. Economists expected the gauge to rise to 57.6, according to the median of 33 estimates in a Bloomberg survey.

Europe's economic growth may moderate from the fastest expansion in six years in 2006 as a value-added tax increase in Germany and higher interest rates crimp household spending and global demand for European exports wanes. Still, unemployment fell to a record low in March and manufacturing growth maintained its pace in April, suggesting any slowdown may be limited.

Yet, of course as I said this is all relative and clearly investors seem sure that inflation is the bigger worry in Frankfurt and that the ECB will continue to stay vigilant for the forseeable future.  

European Central Bank council member Yves Mersch said the temporary slowdown in inflation predicted by the bank appears to be over already, suggesting it sees an increased risk that prices will rise more rapidly.

``The small price dip appears to be over,'' Mersch said in an interview in Wuerzburg, Germany today. The bank sees ``stronger upside inflation risks in the medium term'' and ``must therefore make sure we achieve price stability not only from month to month, but also in the medium term.''

The Frankfurt-based ECB has signaled it will raise interest rates in June for the eighth time since late 2005, even as inflation held below its 2 percent limit for an eighth straight month in April. The bank predicted that inflation would slow over summer due to base affects associated with oil-price increases in 2006 before accelerating to around 2 percent ``towards the end of the year.''

Now, I am of course skeptical here and we should indeed be watching the data closely coming out of Europe. Especially the private consumption figures from Italy and Germany should be under supervision as they show some signs of slowing down. Ending with my headline I of course have a more subtle point here which is that all this fuss about the EUR/USD primarily if not totally is driven by the expected narrowing of the interest differential between the Fed and the ECB. This is of course only natural and investors should place their bets accordingly and I would not want to be anything but long EUR/USD at the moment given the near certainty of an ECB hike in June. Yet, behind this story is of course the nature of this 'de-coupling' process and whether it is structural and lingering in nature? I have my doubts and quite frankly I do not see the ECB raising further than to 4% but boy have I been wrong before on my ECB calls so remember to stay hedged :).