Daily Insight

Following on from last week, the Pound came under real pressure over the festive period, falling to the lowest level on record against the Euro and crashing to a four month low versus the Dollar as the outlook for the UK economy soured and speculation intensified over an impending rate cut.

However, the Pound snapped a three day losing streak on Friday and actually made modest gains against the majors after an index of UK service industries showed that growth in the sector unexpectedly accelerated in December.

The report from the Chartered Institute of Purchasing and Supply showed that service sector growth accelerated to a reading of 52.4 last month to rebound from the lowest level in four years in November.

Initially, economists had forecast a further drop in the index but the unexpected increase saw the Pound rally against both the Euro and the Dollar as the report cooled speculation of a back-to-back rate cut in January.

The monetary policy committee have the unenviable task of balancing a slowing economy against rising inflationary pressures as credit costs continue to spiral out of control and falling home values dampen consumer sentiment.

The price of oil continues to hover just above $100 a barrel and rising energy and food costs threatens to curtail the pace of economic expansion while fanning inflation. The focus this week will inevitably fall on the Bank of England rate announcement on Thursday and the outcome of the meeting is finely balanced.

The Pound has dropped 6% against the Dollar since reaching a 26-year high in the fourth quarter of last year but the monetary policy committee may decide to keep the benchmark lending rate at 5.5% in January and that may provide some much needed support for Sterling.

The unrelenting rise of the Euro continues to dominate the market as the single currency looks poised to test the resistance around the 1.5000 level versus the Dollar while also rising to a fresh record high against the Pound.

The staunchly hawkish stance of the European Central Bank combined with the surprisingly consistent spate of positive economic reports has prompted speculation that the governing council will need to lift interest rates in the face of rising inflation.

European consumer prices have remained above 3.0% for the second consecutive month in December while the overwhelming rise in exports out of Germany means that the economy should withstand a global economic slowdown.

In addition, the current state of the labour market is in stark contrast to that of the U.S as unemployment in Germany fell to the lowest level in 6-years last month. Recent comments from a number of ECB officials have focused on the need for tighter monetary policy, particularly when you consider that energy prices continue to reach new highs.

Although the ECB are likely to keep interest rates unchanged at 4.0% this week, the tone and language used in the accompanying statement will be heavily scrutinized as the market looks for any indication of future policy.

The Dollar declined against the all of the 16 most actively traded currencies on Friday as the eagerly awaited U.S employment report showed that the economy added just 18,000 jobs to payrolls in December.

The weakening U.S labour market will be cause for concern among policy makers as hiring slowed by much more than forecast and the unemployment rate jumped to the highest level in two years.

The jobless rate actually increased to 5.0% from 4.7% in November as the report indicated more damage to the economy from the housing slump and reduced access to credit.

Prior to the release of the report, many economists anticipated a rise of 85,000 jobs last month so the scale of the decline may influence the Federal Reserve to cut interest rates for the fourth month in a row and by half a percentage point in order to ward off a recession.

Payrolls have fallen for the first time since July 2003 following job losses in manufacturing, construction and the retail industry while a separate report showed that service sector growth also cooled in December.

Data Released 7th January

EU 10:00 Producer Price Index (November)

EU 10:00 Consumer Confidence (December)

- Industrial Confidence

EU 10:00 Business Climate Index (December)

EU 10:00 Unemployment (November)

written by Adam Solomon