Daily Insight

Following on from last week, the Pound dropped to the lowest level in well over a year versus the Euro but managed to claw back above the $2.00 barrier against the Dollar as an unexpected rise in retail sales offset criticism of the BoE governor, Mervyn King. With the pace of consumer spending showing few signs of slowing, the UK economy may continue to expand at a moderate pace despite heightened concerns over sentiment following the Northern Rock fiasco. In a speech to the UK treasury select committee, King was forced to vigorously defend his handling of the Northern Rock bailout as the Central Bank finally released over £10 billion in emergency funds to prevent a liquidity crisis. The Pound may continue to decline against the Euro over the coming week despite signs that the downward momentum may have subsided for the time being. Following the problems at Northern Rock, concerns about the banking sector are growing and that may undermine Sterling sentiment in the short-term amid speculation that the Bank of England will need to cut UK interest rates.

The Dollar has fallen to the lowest level on record against the Euro and bounced back above 2.0200 versus the Pound following the Federal Reserve's decision to cut interest rates by 50 basis points last week. The U.S currency has continued to decline against 15 out of 16 of the most actively traded currencies as rumours circulate that the Fed will lower interest rates again before the turn of the year with a 70% chance of rate cut next month. The latest round of economic reports have shown an unexpected rise in jobless claims, sagging retail sales and a morbid outlook for the U.S housing market. Therefore the focus this week will fall on the U.S home sales data, which is expected to show that the depth of the subprime mortgage crisis is intensifying the housing recession while a number of key Fed policy makers are due to speak this week.

The positive sentiment surrounding the Euro has continued to gather momentum over the past week as the single currency rallied above 1.4100 against the Dollar and to the highest level ever recorded. The Euro also made significant gains versus the Pound, dropping briefly under 1.4300 to test the highs from April 2006 amid speculation that the ECB could raise interest rates by a further 25 basis points this year. Despite the increased level of volatility surrounding financial markets of late, the ECB's governing council have retained a tightening bias as the chairman of the Central Bank stated that "upside risks" to inflation remain a concern to policy makers. At the present time only a verbal intervention from the chairman of the ECB, Jean-Claude Trichet or a spate of negative economic reports could seemingly slow the Euro's unprecedented rise against both the Pound and the Dollar. In terms of data, we are have already seen some signs of instability as Service sector growth in the Euro-region dropped from a reading of 58.0 in July to 54.0 last month. While elsewhere, the Purchasing Managers' index of European manufacturing showed that growth in output also slowed in August. The focus this week will invariably fall on the German IFO sentiment index, which is expected to highlight that the recent problems in the U.S combined with credit market turmoil and a rising Euro are beginning to weigh on business confidence.

Data Released 24th September

EU 10:00 Industrial Orders (July)

written by Adam Solomon