The Pound rallied to the highest level in over a month versus the U.S Dollar yesterday, as gilts plunged, following reports that UK inflation unexpectedly accelerated in February. According to the report from the Office of National Statistics, the annual pace of inflation rose in February, as consumer prices climbed 3.2%, amid higher food costs.
The weakness in Sterling also sustained pricing pressures, even as the economy drifted deeper into a recession. The surprising increase in the headline number was far higher than the 2.6% anticipated and the Bank of England Governor Mervyn King wrote in a letter to the Treasury that a “sharp decline” in the rate is likely to resume.
In a statement yesterday, King also said that a decline in the Pound “was very likely” and that “I see no reason why it should go any lower”. He also said that the Bank’s job is to respond and ensure the currency doesn’t keep inflation above the target, indicating that he is prepared to intervene accordingly.
The Chancellor Alistair Darling has been publicly supportive of King’s approach to medium term inflation expectations. Investors say consumer prices will be volatile given the drop in value of the Pound over the past year.
In addition, the monthly increase in consumer prices will temporarily ward off speculation that the UK economy is headed towards a period of deflation. The annual rate of inflation increased for the first time in five months, as prices for food and non-alcoholic drinks increased, boosted by gains in the cost of vegetables, after poor crops in Spain.
The data also reflected the effects of the exchange rate that pushed up the cost of imports.
Ford Motor Co confirmed that the Pound’s “continued weakness” has forced the struggling automaker to increase the price of all its models in the U.K by an average of 3.75%, starting next month.
A separate gauge of the report showed that the retail price index, a measure of the cost of living used in pay bargaining, was unchanged from a year earlier, the weakest reading since March 1960.
The Bank of England has cut interest rates 4.5 percentage points since October, in the most aggressive policy easing in its history. The Central Bank announced last month that it has started printing money to fight the recession, while King told lawmakers yesterday that the outlook for consumer prices will determine how long that policy will last.
In addition, the BoE governor also said that the government should tread carefully on how much money it should pour into the UK economy and keep spending under control. Alistair Darling has said that he is considering further fiscal stimulus measures to bolster the economy in his annual budget statement on April 22nd.
In the pre-budget report last November, the Chancellor ordered £20 billion in tax cuts and spending increases, forecasting a deficit of 8% of gross domestic product. King has warned the government that it should not boost fiscal policy much further, given the significant increase in debt. The warning will tend to undermine support for the Pound, given that fiscal fears are already an important fact in undermining sentiment.
The Pound touched a high of $1.4779 versus the Dollar following the report, rising 1.4% by the close of trading last night, while the UK currency also peaked above 1.0800 against the Euro . The Pound also surged to the strongest level since December versus the Japanese Yen, as stocks in Europe and Asia gained, reducing the allure of safe haven currencies.
The U.S Treasury Secretary Timothy Geithner unveiled proposals to finance as much as $1 trillion in toxic assets. Stocks subsequently rallied as the move sparked a revival in risk appetite, while the drop in gilts pushed the 10-year yield up by the most in six weeks.
According to a report from CMC Markets Plc, the Pound may extend its rally to the highest level in six weeks versus the Dollar. The UK currency climbed above $1.44 last week and breached the 100-day moving average of $1.4700 yesterday, setting up to break through the next resistance level at $1.4880.
The renewed confidence in equity markets could see the Pound breach the $1.5000 barrier in the short-term, as the Dollar continues to depreciate, following the Federal Reserve’s decision to begin a period of quantitative easing.
In addition, a separate report from BNP Paribas SA has encouraged investors to buy the Pound, amid speculation that the government’s decision to pump money into the financial system will boost banking shares. The Bank of England confirmed yesterday that it purchased £7 billion of gilts in the week through March 19th with newly created money.
EUR/USD
The Euro was unable to sustain its upside momentum above the key resistance level at $1.3700 against the Dollar yesterday, amid a mixed tone of economic data and comments from ECB governing council members. Europe’s manufacturing and service industries contracted for a 10th straight month in March, as job cuts accelerated and companies reduced output.
The Purchasing Managers’ Index of both industries was at a reading of 37.6, compared with a record low of 36.2 in February. The measures of employment and output prices both fell towards record lows. Recent economic reports indicate that the Euro-zone economy is entrenched in the worst recession since the Second World War, as the global financial crisis curtails domestic and global demand.
Industrial production in the 16-nations sharing the Euro dropped by the most on record in January, while the unemployment increased to the highest level in over two years. The extent of the contraction in the Euro-zone economy has forced ECB policy makers to embark on the most aggressive policy easing in its 10-year history.
The governing council have however been reluctant to follow the Federal Reserve and the Bank of England and slash interest rates towards zero. The Euro has also found support as the ECB show few signs of engaging in quantitative easing measures, through creating money and pumping into the economy.
However, the single currency lost ground against Sterling yesterday, after ECB Vice President Lucas Papademos said that the Central Bank could consider embarking on quantitative easing measures, should all other options to revive the economy fail.
On being asked if the ECB would consider engaging in such measures, Papademos said, “this is an option which could be considered, in case the more traditional means for implementing monetary policy have been utilised”. He also noted that a “distinction should also be made between quantitative easing and credit easing”.
Policy makers have signaled that they would collectively favour expanding the bank’s existing credit-easing policy, of lending banks as much money as they require. Rather than following the Federal Reserve and Banking of England in printing money to buy government or corporate debt.
Data Released 24th March
U.K 11:00 CBI Distributive Trades Survey (March)
GER 09:00 Ifo Index (March)
U.S 12:30 Durable Goods (February)
U.S 14:00 New Home Sales (February)
written by Adam Solomon
Related posts:
- The Pound rises to a high of $1.5500 against the Dollar as a bounce in global stocks increased risk appetite and spurred demand
- The Dollar declines to a fresh record low against the Euro amid news that U.S retail sales unexpectedly declined in February
- The Dollar declines as a gauge of U.S inflation unexpectedly moderates in April
- The Pound rises to a fresh two and a half year high against the Euro and rises to a near 14-year high versus the Dollar
- The Pound advances against the majors as UK mortgage approvals unexpectedly increases to a 2-year high
