The Pound resumed its downward momentum against the Euro yesterday, dropping to a fresh record low at 1.1056, while the UK currency took advantage of broad Dollar weakness and rallied to a high of 1.5608 last night after an unprecedented announcement from the U.S Federal Reserve.

The FOMC slashed the main U.S interest rate to a range between zero and 0.25% and said it will do whatever is necessary to bring the economy out of its current slump, warding off fears of a Depression, and reviving credit in an effort to boost stability and spur lending.

In the accompanying statement, policy makers said that they will “employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability” and the Dollar subsequently declined as the cut was greater than anticipated.

The tone of the statement was almost designed specifically to increase an element of risk aversion in the market that encouraged investors to sell safe haven assets in favour of high-yielding currencies and the Dollar has endured the biggest two-day decline against the Euro on record.

Treasuries also rallied as the FOMC added that “the focus of the committee’s policy going forward will be to support the functioning of financial markets and stimulate the economy through open market operations”. The market rallied in anticipation that the Fed will continue to buy mortgage-backed securities in an attempt to force borrowing costs for consumers lower.

Policy makers have now lowered U.S interest rates on nine occasions in little over a year but together with the injection of $1.4 trillion in emergency lending, have so far failed to slow the economic downturn that is leading to the worst recession in a quarter of century and record low borrowings costs.

The key points of the Fed’s statement last night were designed to improve stability in financial markets and weaken the Dollar to boost export demand but the committee also noted that it will purchase agency debt and is ready to expand the program in considering the potential benefits of buying long-term Treasury securities.

The historic decision from the Federal Reserve could lead to a period of quantitative easing as policy makers send an extraordinary message that it is prepared to pump money into the financial sector until the economic downturn is reversed.

In the aftermath of the announcement, the U.S Treasury Secretary Henry Paulson addressed the delay over the projected $14 billion stimulus package to save struggling automakers General Motors Corp and Chrysler LLC and he said that officials were working on the terms of the bailout.

The renewed optimism sweeping through financial markets has curtailed the Dollar’s upside momentum against the majors and the magnitude of the decline last night took the U.S currency above $1.5600 versus the Pound and 1.4147 against the Euro.

The Pound slumped to yet another record low against the Euro and after a brief period of consolidation, the downside move is gathering in momentum and found fresh impetus yesterday after a government report showed that UK inflation fell in November to the lowest level since June.

Falling oil prices and a worsening economic climate has tightened its grip on the economy as consumer prices rose 4.1% from this stage in 2007, compared with 4.5% in October and the result means that the BoE governor Mervyn King had to publish another letter of explanation to the Treasury, explaining why the rate still exceeds the 3% upper limit.

In a letter to the Chancellor of the Exchequer Alistair Darling, King said that Britain’s inflation rate may fall next year to the lowest level since 2002, indicating that policy makers will continue cutting interest rates in the first quarter in attempt to stimulate the economy.

The UK inflation rate may fall below 1% in 2009 and King also emphasised that consumer prices may undershoot the government’s 2.0% target as policy makers will have to deal with a new threat of deflation.

The Pound subsequently declined against the Euro amid increased speculation that the Bank of England will need to cut interest rates from the current 2.0% in January, already at the lowest level since 1951, and Mervyn King has refused to rule out the possibility of deflation next year or cutting borrowing costs to zero per cent.

The Pound has declined over 20% in value against the Euro this year and almost 25% versus the Dollar, which has helped ease price pressures in the UK, while commodities have also tumbled with oil prices plunging 60% since reaching a record level in July.

The annual pace of inflation peaked at 5.2% in September and has exceeded the government’s 2.0% target for 14-months but falling petrol prices have helped, while shops bring forward sales to lure consumers that are concerned that they may lose their jobs.

The UK economy has fallen into a recession in the third quarter as tighter lending conditions rationed credit, while house prices plunged at the fastest pace since 1978 as the government’s attempts to stimulate spending with a £50 billion rescue package has so far failed to revive credit.

Data Released 17th December

U.K 09:30 BoE Monetary Policy Committee Meeting Minutes

U.K 09:30 Average Earnings (3 Months to October)

U.K 09:30 Claimant Count Unemployment (November)

U.K 11:00 CBI Distributive Trades Survey (December)

EU 10:00 Final Harmonised Index of Consumer Prices (November)

U.S 13:30 Current Account Balance (Q3)

OPEC OPEC Meeting

written by Adam Solomon