The Pound slumped to a record low against the Euro for five consecutive days last week, dropping under 1.1200 on Friday, after HBOS Plc said that bad loans will keep rising as credit conditions deteriorate, signalling that the Bank of England may need to continue to the pace of monetary easing in January.
The UK currency has come under serious pressure against the majority of the 16 most actively traded currencies as a host of weakening UK fundamentals indicate that the economic slump is intensifying and the government is fighting the worst recession since the 1970s.
Nevertheless, the Pound did rally to a high of $1.5117 against the Dollar as an element of risk appetite crept back into the market following suggestions that the U.S government were poised to rescue struggling automakers with a $14 billion stimulus package.
However, the Senate rejected the proposal on Thursday evening and the Pound subsequently weakened against the Dollar as global stocks tumbled and demand for riskier assets evaporated amid speculation that General Motors Corp and Chrysler LLC will be forced into Chapter 11 bankruptcy if an agreement isn’t reached.
The correlation between falling stock markets and a declining Pound has been increasingly prevalent in recent weeks but the news from HBOS Plc on Friday undermined Sterling sentiment amid speculation that UK interest rates could be cut to zero per cent.
The FTSE 100 Index lost 2.6% on Friday and the Pound depreciated 1.3% to the lowest level since the Euro’s introduction in 1999 as policy makers try to limit the fallout from the global credit crisis but interest rates can only be cut so far before the government has to look at less conventional techniques to revive the economy.
The accompanying statement from HBOS Plc, which agreed to a takeover by Lloyds TSB Group Plc, said that this year’s charge for bad loans rose to £5 billion as the credit crisis deepened and investors are still looking for further downside movement for the Pound against the Euro as we approach year-end.
In terms of economic data, the focus this week will fall on the tone of the minutes from the Bank of England’s last policy meeting where the MPC elected to cut interest rates to just 2.0% in an effort to improve lending conditions.
The nine-strong monetary policy, including the governor Mervyn King, are expected to have voted unanimously for the cut but investors will also be monitoring the tone of the statement for insights into how aggressive the BoE is prepared to be in terms of policy adjustment.
A number of committee members, including Andrew Sentence last week, have refused to rule out the possibility of cutting borrowing costs to zero per cent and the minutes could potentially exacerbate the Pound’s decline as the UK currency continues edging closer towards 1.1000 versus the Euro.
Elsewhere, the UK consumer price index for November will probably confirm another sharp deceleration in the annual inflation rate to 3.9% from 4.5% the previous month amid falling commodity prices that has seen oil lose over two thirds in value since the July high of $147.27 a barrel .
In addition, the dismal pattern of weak economic data will also weigh on the Pound as a government report will probably show a further drop in retail sales over the past month, while November unemployment is expected to push the claimant count above the 1 million mark for the first since early 2001.
The Euro has been gathering in momentum over the past week as the diverging interest rate expectations between the ECB and the Bank of England makes the single currency an increasingly more attractive commodity to investors.
A number of ECB governing council members have publicly expressed concerns on dropping interest rates below 2.0% after another aggressive 50 basis points reduction early this month to 2.5%.
Recent reports have indicated that the recession in the Euro-zone is deepening as a number of key industries slip further into contraction but policy maker Axel Weber said on Thursday that he would prefer to avoid taking the base rate below 2.0%.
However, at the same time Portugal’s finance minister Vitor Constancio said that the ECB still have a “margin of manoeuvre” to fight the risk of deflation and the council appears split on whether to resume monetary easing into the New Year.
While investors speculate on the prospect of another 1% percentage point cut by the Bank of England in January, the Pound is likely to decline further against the Euro amid speculation that the ECB is nearing the bottom of its easing cycle.
The Dollar bounced back against the majors on Friday and a 13-year low versus the Japanese Yen amid speculation that the Bush administration will utilise funds that were previously intended for financial institutions to bailout GM Corp and Chrysler LLC.
General Motors moved a step closer to a possible government rescue on Friday as the government said it may tap into the bank bailout fund after the Senate rejected a $14 billion stimulus package to ward off bankruptcy.
GM Chief Executive Officer Rick Wagoner has apparently been in discussions with senior White House officials, including the Treasury Secretary Henry Paulson, regarding a short-term plan to keep the struggling automaker solvent.
While Congress dithers over the terms of the projected bailout that was rejected by a majority on Thursday, the looming threat of a bankruptcy at the automakers may send the U.S economy into chaos within weeks, if it led to a shutdown at the companies.
Economists warned on Friday that automakers would close plants, lay off tens of thousands of workers and dramatically cut production that would cause many of their suppliers to collapse and trigger more job losses on a worldwide scale.
The Dollar remains very sensitive to the reports around the struggling U.S automakers and that trend will probably continue this week, while the focus switches to Tuesday’s FOMC rate announcement and the Federal Reserve are expected to cut interest rates to 0.50% as policy makers run out of room for further reductions.
Data Released 15th December
U.K 00:01 Rightmove House Prices (December)
U.S 13:30 Empire State Index (December)
U.S 14:00 TICs Net Capital Inflows (October)
U.S 14:15 Industrial Production (November)
- Capacity Utilisation
U.S 18:00 NAHB Housing Market Index (December)
written by Adam Solomon
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