By Lujia Lin, THE TAKEAWAY: All Industry Activity Index falls 0.5 percent > Markets remain largely focused on Europe > Yen flat The Japanese Yen traded relatively flat after a broad gauge of economic activity declined for the first time since March. Despite the fall in activity, the Yen failed to make any significant move within 30 minutes of the data release – trading around the 76.70 handle against the US Dollar – as markets remained optimistic about the prospect of further action to address the European debt crisis. Chart created using Strategy Trader The Ministry of Economy, Trade, and Industry reported that the All Industry Activity Index contracted 0.5 percent in August, the first negative month-over-month reading since March. Services, which account for over 63 percent of the index, contributed to the drop with a 0.2 percent contraction. The three remaining sub-components – manufacturing, government, and construction – all expanded, with construction leading with a 2.5 percent rise. Wednesday’s Activity Index release is the latest addition to a series of mixed data suggesting that the Japanese economy continues to recovery from the March earthquake at a modest pace. On the one hand, industrial production figures released this week showed a marked slowdown from earlier stages of the recovery. This, in addition to a stubbornly strong Yen, led the Bank of Japan last week to maintain its near-zero interest rate and existing liquidity programs. At the same time, the most recent Tankan survey and machinery-order data pointed to growing optimism among manufacturers and a possible pick-up in business investment. With a relatively light data calendar for Japan this week, the Yen’s movements will be shaped by events unfolding in Europe. Before the Activity Index release, the Yen had been falling against the US Dollar as investors shook off Spain’s downgrade and instead focused on the Guardian report that Germany and France had agreed to expand EFSF. Though a source close to the talks had reported that no agreement has been reached, the report nonetheless fueled speculation that EU leaders meeting this weekend will expand the size of the bailout fund. This has sparked a rally in Asian equities and weakened demand for safer assets such as the Yen. Markets will continue to analyze further statements from European policymakers for insights into this weekend’s summit, with any increase in risk aversion likely to push the Yen higher.
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