Currency Update

Currency Update

For the first time in almost a year the Fed decided to leave the US Fed funds rate on hold, keeping the rate at 2%. Of course this decision was widely expected and it was the accompanying statement that was anticipated to give the markets some direction. The statement was slightly less hawkish than some, including myself, expected; it mentioned that 'recent information indicates that overall economic activity continues to expand', but also made much of the continuing weakness in the housing, and labour markets. The statements indicated that the committee expected inflation to moderate towards the end of this year and into the next, but that the continuing rise in commodity prices does cause some uncertainty in the outlook for inflation.

The tone and the detail of the statements seemingly indicates that rate rises are a remote possibility, and will only be considered if the economy recovers. This caused some sell off of the US Dollar, the Pound has risen to 1.9750 overnight, while the Euro is up above 1.5650, but the sell off has been relatively limited as the markets are still pricing in a couple of rate hikes before the year end. If the US economy doesn't recover, and these expectations start to be scaled back, then the Dollar will weaken further.

The Fed may be in wait and see mode, but the ECB have seen enough; they have a much more hawkish line on inflation than the Fed. Trichet, the President of the ECB, gave a speech yesterday and again stressed that the central bank was in a 'heightened state of alertness' over inflation; Trichet also raised his concerns that the recent inflationary shock from fuel and food would feed through to inflationary expectations, demands for higher wages, and a wage/price spiral. Trichet's speech seems designed to reiterate that the ECB are going to raise rates in July, to head of expectations of inflation as much as to control inflation itself.

Trichet's hawkish message, plus indications from yesterday's CBI distributive trade survey, which showed that the retail picture was not quite as bullish as the official data predicts, have led to Sterling falling down to below 1.26 against the Euro overnight, before staging a limited rally this morning. The CBI report for June showed there were more retailers reporting falling sales than those reporting rising sales, so it seems that May's strong retail figures were just a blip, caused by a reporting glitch, which measured volumes rather than value, and the warm weather.

The main event of the day in the UK is a number of MPC committee members testifying to the Treasury Select Committee. Their testimony will be studied for further indication of their view on inflation and their appetite for rate rises.  

There is little released of note elsewhere so traders will be studying the Fed's statement from yesterday to see if they can eke out more meaning than from the words than they did on the first reading, and probably more meaning than the Fed actually intended the statement to carry.

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