Daily Insight

The Dollar made significant gains against the Pound yesterday, dropping under 2.0300 by the close of trading last night despite a distinct lack of fundamental impetus as the move highlights the speculative nature of the markets in the build up to the FOMC rate announcement.

In the aftermath of the surprisingly uneventful G7 meeting over the weekend, Fed fund futures are currently pricing in an 86% chance of an interest rate cut at the end of the month, down from 92% on Friday.

However, the Federal Open Market Committee has the unenviable task of balancing the obvious risks to price stability against the health of the economy. The headline measure of U.S consumer prices climbed to an annual pace of 2.8% in September as the price of oil continues to rocket towards fresh record highs.

The so called core inflation, which excludes food and energy, has held relatively steady at 2.1% and that may be enough to convince policy makers that a further quarter-point rate cut is needed to avert a further credit crisis.

That sentiment was echoed by the President of the Fed Bank of Chicago, Charles Evans yesterday, who said that policy makers must shield the economy from "high cost" events such as a worsening housing slump.

The positive sentiment surrounding the Euro continued over the weekend as the tone of the G7 meeting failed to address the severe depreciation of the Dollar and the overwhelming strength in the Euro.

It appears that the European Central Bank have resigned to a strong Euro despite growing concerns of the impact on the broader economy and specifically overseas demand for European made products.

Therefore, any hawkish commentary from ECB officials this week or particularly positive economic reports is likely to promote further Euro strength with the single currency hovering just under a record high against the Dollar. The focus today will fall on European industrial orders in August with the report expected to show an increase of 1.0% from the previous month.

The Pound relinquished much of the gains made against the Dollar last week and also fell modestly versus the Euro amid news that that two of the UK's biggest commercial banks were seeking emergency funding.

Following the furore surrounding the fallout from the Northern Rock debacle, Barclay's and the Royal Bank of Scotland will borrow $30 billion between them, sparking additional concerns that the turmoil surrounding credit markets has yet to stabilize.

In addition, these banks are seeking liquidity from the Federal Reserve and not the Bank of England as you would expect with the funds to be used as a contingency and may not even be needed if financial markets improve.

It remains evermore clear that the BoE is reluctant to provide liquidity to the markets and therefore there is little chance of a cut in UK interest rates in the short-term.

Data Released 23rd October

UK 11:00 CBI Monthly Trends (October)

EU 10:00 Industrial Orders (August)

written by Adam Solomon