YB Currency Update – Monday 12th October

YB Currency Update – Monday 12th October

The Dollar hit a 15 month trade weighted index low last week, so it is perhaps no surprise that Ben Bernanke has started making the usual comments that the US administration wants a strong Dollar. The desire for a strong Dollar has been the regular refrain from US governments for some time, even as they drastically cut rates post 9/11 and post Lehman Brothers. As many governments hold a large part of their foreign currency reserves in the US currency, a weak Dollar is no one's first choice, but the markets are bigger than any one government, and even though they reacted to Bernanke's attempt to shore up the Dollar, who said that 'At some point, however, as economic recovery takes hold, we will need to tighten monetary policy to prevent the emergence of an inflation problem down the road', this is likely to do no more than slow down the Dollar's decline, rather than arrest it, with the markets only pricing in 1% US interest rates by the end of 2010, a level that would still make it hard for the US to attract the foreign investment it needs to fund its current account deficit.

The weakness of the Dollar may take up the central story in the currency markets, but the Pound is actually performing worse. Just like the England team losing a match no-one is watching, the Pound has been steadily losing what little gains it had made, but doing it away from the headlines. The Pound can"t make any excuses about Ukrainian flares, as the Pounds recent dip all started from an own goal scored by comments from King that a weak Pound will help restructure the economy towards a more even balance between exports and imports. The Pound has slumped even further on a report from the Centre for Economic and Business research, who must be pricing in a Conservative party victory at the next election, as they predict GBP80bn of spending cuts over the next parliament, and GBP20bn of price rises, which they forecast would mean lower interest rates for longer, with interest rates still at 2% in 2014.

The markets have been spooked by the CEBR report, which also forecasts an extra 75bn of QE before the policy ends. The report is on the extremely pessimistic range of forecasts, with their estimates that the Pound may dip below parity against the Euro, and down to 1.40 against the Dollar. If all their predictions do prove correct then they must also expect inflation to remain low for quite some time, which would seem at odds with their forecasts for an extremely weak Pound. If the BoE did allow inflation to run at a high level for a protracted level of time then it could do more damage to the UK's reputation than running a large public deficit. The Pound has still slid on the report, falling down to 1.5750 against the weak Dollar and towards a  6 month low of 1.07 against the Euro.

There is almost a complete absence of data out today, with the Columbus day holiday in the US meaning trading is likely to be thin, exacerbating any FX moves. We will get a test of whether inflation will be staying low enough to justify their rate predictions tomorrow, as well as retail sales overnight to give some idea of optimism amongst the biggest drivers of growth in the UK, consumers.

With no data released today the Pound is likely to continue to suffer at the hands of the CEBR report.

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