The Pound declined against both the Euro and the Dollar yesterday amid speculation that the government’s latest initiative to introduce a second bank rescue package in just three months won’t be sufficient in reviving the ailing UK economy and halting the first recession in 17-years.
The UK currency also lost ground against a basket of currencies, including the Australian and New Zealand Dollar after the government announced that it will give the Bank of England unlimited power in pumping money into the financial system and proposed insurance to underwrite mortgage-backed securities and toxic debt.
The Central Bank can make initial asset purchases of up to £50 billion as policy makers fight the risk of deflation with interest rates approaching zero per cent and the Treasury released a statement saying that the program “provides a framework for the MPC to use asset purchases for monetary policy purchases in order to meet the inflation target.”
The Bank of England have lowered interest rates to 1.5%, the lowest level in the Central Bank’s history, and yesterday’s announcement provides an indication that policy makers probably discussed quantitative easing measures in the last policy-setting meeting earlier this month.
Elsewhere, the UK government also announced yesterday that it will increase its stake in the Royal Bank of Scotland Plc as it converts the £5 billion of preferred shares bought last year to ordinary stock as the share price plummeted on Friday following the reintroduction of ‘short selling’.
Shares in the struggling bank slumped by the most in 20-years on the London stock exchange amid concerns that the government may have to nationalise the bank and take full control after reporting the biggest loss ever incurred by a UK company.
The stock market value dropped 67%, the most since September 1988, to just 11.6 pence as RBS said yesterday that it may post a loss of as much as £28 billion this year, surpassing Vodafone Group Plc’s £22 billion net loss in 2006.
The new measure would add at least £100 billion to £250 billion committed by the Prime Minister Gordon Brown in October in order to revitalise the financial system that has been battered by the first recession since 1991 and the move would increase the government’s grip on consumer and corporate banking.
The Pound has come under renewed selling pressure amid speculation that UK interest rates will reach 0.75% by the end of the first quarter and the MPC will take its next decision in February three days after the new stimulus package takes effect.
With UK interest rates at an historic low level and quickly approaching zero per cent, the Bank of England will have the authority to channel liquidity to financial institutions by buying assets but the move won’t allow the BoE to increase money supply, a tactic recently adopted by the U.S Federal Reserve in tackling the threat of deflation.
The Pound declined 0.4% in value against the Euro yesterday, dropping to a low of 1.1002, while the UK currency also weakened 1.9% to $1.4452 and investors are already speculating on the probability of the Pound falling below $1.4000 in the next month as the Bank of England prepare to cut interest rates again on February 5th.
In terms of economic data, the Pound may come under further pressure this morning as the UK consumer price index is expected to show that the annual pace of inflation fell to 2.7% in December from 4.1% the previous month and that would give the BoE further scope to reduce interest rates.
The Euro took advantage of broad Sterling weakness yesterday but the single currency continued to weaken versus the U.S Dollar after the European Central Bank President Jean-Claude Tichet said that the outlook for the Euro-zone economy is “substantially” worse than predicted in December.
In a speech in Paris, Trichet conceded that “the year 2009 will be very difficult” and the ECB said last month that the Euro-zone economy will contract 0.5% this year but the severity of the decline in European economic data has indicated that the economy has drifted deeper into a recession.
The European Commission reported today that the economy will shrink 1.9% in 2009 but the Central Bank are unlikely to lower interest rates again in February as Trichet signalled that March will be the next significant meeting and that may propel the Euro higher against the Pound on yield advantage.
The Dollar has continued its upside momentum against the majors despite the aggressive swings in risk sentiment and the market holiday for Martin Luther King Day but the U.S currency may continue to make gains on the day that Barack Obama is formerly introduced as the new U.S President.
Data Released 20th January
U.K 09:30 Consumer Price Index (December)
- Retail Price Index
GER 10:00 ZEW Index (January)
CAN 14:00 BoC Interest Rate Announcement
U.S Obama Inauguration
written by Adam Solomon
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