GBP/USD GBP/EUR
The Pound initially declined against the majors yesterday, dropping towards the support at 1.1270 against the Euro and $1.5500 versus the Dollar, after Britain’s top level credit rating said that it is more likely to be cut by Standard & Poor’s, as the government’s finances deteriorate, following the worst recession since the Second World War.
The U.K’s AAA outlook was lowered to “negative” from “stable” because of the nation’s increased budget deficit. The government’s budget deficit this year will reach £175 billion, or 12.4% of gross domestic product. A downgrade in the credit rating would make Britain at least the fifth European nation to be cut this year because of the ongoing economic slump.
The UK will sell a record £220 billion of bonds in the fiscal year through March 2010, as the recession cuts revenue and forces the government to increase spending. The UK economy has contracted 1.9% in the first quarter, the biggest since 1979, when Margaret Thatcher became Prime Minister.
A statement from S&P; analysts said “we have revised the outlook for the UK to negative due to our view that, even assuming additional fiscal tightening, the net general government debt burden could approach 100% of gross domestic product and remain near that level in the medium term.”
The Pound dropped from the highest level in six months against the U.S Dollar, but recaptured most of the early losses throughout the course of the day, amid speculation that a downgrade wasn’t imminent as two other rating companies affirmed that the UK’s outlook is “stable”. The UK currency touched a high of $1.5815, the highest level since November 10th, before closing 0.2% lower at $1.5722 last night.
S&P; lowered the outlook for the UK’s credit rating to negative, while Moody’s Investors Service said in a statement yesterday that the UK’s top Aaa sovereign credit rating remains unchanged with a “stable” outlook because the government can absorb and reverse the debt burden. The government has given the Bank of England the authority to purchase up to £150 billion of assets with newly printed money, in an attempt to lower borrowing costs.
The government’s efforts to shore up the nation’s finances are being undermined by an economy entrenched in the worst recession since 1991. Unemployment surged higher to 2.2 million in March, the highest level since 1996, while tax income dropped 10% over the past year. The International Monetary Fund expects UK gross domestic product to contract 4.1% this year, the most since the Second World War.
The Pound has gained 5.7% in value against the Dollar this month alone, and a further 1.8% versus the Euro, as UK retail sales increased and the housing market showed tentitative signs of recovery, as the worst of the recession appears to be over. A report from the Nationwide Building Society showed that house prices fell less-than-expected in April, after posting a surprise increase in March. Consumer confidence also climbed to the highest level in a year.
The subsequent impact on stocks saw the FTSE 100 Index fall and the Pound declined heavily against all of the 16-most actively traded currencies, as risk appetite deteriorates. The UK currency may extend its losses in the near-term, and Euro and Dollar buyers would be well placed to work a stop order to protect against a sustained downward move.
UK stocks fell the most in a month following the announcement from Standard & Poor’s Rating Services, while the former Federal Reserve Chairman Alan Greenspan signaled that the financial crisis is not over yet. HSBC Holdings Plc and the Royal Bank of Scotland Group Plc declined more than 3%, while the FTSE 100 Index retreated 2.8% on the session, making the measure the worst performing this year among the 23 developed markets.
Concerns over a medium-term downgrade in the UK credit rating will remain an important negative factor for Sterling. The underlying budget data also remained very weak with a £8.5 billion borrowing requirement for April, following a £18.2 billion shortfall previously and there will be significant medium-term currency risks from the debt situation. The Pound has weakened against the Euro this morning, finding support around the 1.1270 level but the UK currency has maintained a strong above against the U.S Dollar.
EUR/USD
The Euro rallied strongly against the U.S Dollar yesterday, rising to the highest level in four-months, after European manufacturing and service industries contracted at the slowest pace in eight months. A composite index for both industries rose to a reading of 43.9, from 41.1 in April, adding to evidence that the Euro-zone recession is easing.
The economy is showing positive signs that it may recover later this year, as numerous stimulus aid and interest rate cuts prop up global demand. German investor confidence rose to the highest level in three years in May, while European exports climbed for a second consecutive month. Nevertheless, policy makers are warning against excessive optimism.
Bundesbank President Axel Weber said last week that it is “not advisable” to assume that a recovery is “safely on track”. Federal Reserve policy makers said last month that the global financial system is still “vulnerable to further shocks”, according to the minutes from the FOMC policy meeting. European stocks dropped for the first time in six days yesterday, as the Fed projected a deeper recession in the U.S economy.
The Dollar slid to a four-month low against the Euro and dropped to the lowest level this year against Sterling, amid speculation that the U.S may lose it AAA credit rating. The U.S currency declined to a low of $1.3971 against the Euro, after Treasury yields rose the most in two weeks yesterday, amid concerns that the government will not be able to fund its fiscal spending.
In terms of economic data, the Philadelphia Fed index improved to -22.6 in May, from -24.4 the previous month. Initial jobless claims fell to 631,000 in the week ending 16th May, from 643,000 previously, while claims for unemployment benefits increased to a fresh record high at 6.66 million.
Data Released 22nd May
U.K 09:30 Gross Domestic Product (Revised Q1)
written by Adam Solomon
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