Daily Insight

The Pound extended its run of gains against the Dollar yesterday amid fears that oil prices will breach the $150 a barrel this year while the annual pace of UK inflation will continue to accelerate and force the Bank of England to keep interest rates unchanged over the coming months.

The minutes from the Central Bank’s last policy meeting showed that the MPC voted 8-1 in favour of keeping interest rates on hold in May with the vast majoring of the nine-strong panel arguing that a further cut would risk letting inflation entrench the economy.

The tone of the Bank’s quarterly inflation report paved the way for the hawkish outlook on inflation despite fears that the economy will slip into recession while David Blanchflower was the sole voice for a rate reduction.

The Pound rose 0.2% versus the Dollar following the release of the minutes but the UK currency slipped under 1.2500 against the Euro as the buoyancy of the Euro-zone economy means that policy makers will keep interest rates at the highest level in six years.

Although the MPC appear focused on the upside risks to inflation, a division is brewing within the committee on the extent of the economic slowdown but with consumer prices already at the government’s limit, policy makers are limited in their position to cut interest rates.

The focus this morning will fall on the UK retail sales report and a further dip in consumer spending could end the Pound’s unexpected rally against the Dollar while the CBI industrial trends survey may show a modest pickup in activity levels.

The renewed sense of optimism surrounding the prospects for the European economy has seen the Euro register significant gains against the Pound while the single currency finally broke out of a month long trading range versus the Dollar amid an unexpected rise in German business confidence.

The Ifo sentiment index showed that the survey increased in May as companies pulled through the record surge in oil prices and the dramatic appreciation in the value of the Euro. The business climate report rose to a reading of 103.5 in May despite forecasts of a further decline towards 102.0 and the Euro jumped almost a cent against the Dollar as the report reduced the chances of an ECB rate cut.

The Federal Reserve and the Bank of England have both slashed interest rates in an attempt to boost growth but the resilience of the European economy has even prompted calls governing council member Alex Weber for rates to increase from the current 4.0%.

The price of oil escalated to a fresh record high of $134 a barrel yesterday and the Dollar subsequently extended its biggest decline against the Euro since mid March while a report on the deterioration of the U.S housing market showed that mortgage applications plunged 7.8% last month to equal the lowest number this year.

Despite the improvement in some sections of the economy, the outlook for growth is still bleak as the Fed expects unemployment to increase dramatically over the coming months. In a statement last week, the chairman of the Reserve Bank, Ben Bernanke, warned the downside risks to growth are far from over while the latest housing market numbers indicate that any recovery in the sector could be fragile.

Nevertheless, the Fed still expect economic growth to rebound in the second half of the year as the economy absorbs the robust cut in U.S interest rates but the Dollar may come under pressure in the short-term as the weekly jobless report shows that claims rose to 375,000 last week.

Data Released 22nd May

U.K 09:30 Retail Sales (April)

U.K 11:00 CBI Industrial Trends Survey

EU 10:00 Industrial Orders (March)

U.S 13:30 Initial Jobless Claims (w/e 17th May)

written by Adam Solomon