Sterling drops to 8-week lows versus dollar; euro fears reignite

Tom Tong24/May/2011Currency Updates

GBP

Sterling lost ground against a strengthening dollar yesterday, trading in a tight range against the euro. Sterling dropped to the lowest levels we have seen in the last eight weeks against the dollar as the greenback benefitted from speculators moving out of the euro and into the dollar on the back of renewed fears of contagion in the single currency block. Sterling received some support from the BoE’s Spencer Dale yesterday as he spoke in the FT about his preference for immediate increase in interest rates and then gradual increases in interest rates over the next two years. Additionally, an EEF study highlighted that manufacturing pay growth had increased between January and March. Tomorrow we see the second estimate of Q1 GDP in the UK, giving a clearer indication of the state of the UK economy and setting the agenda for the pound over the coming weeks.

EUR

The situation in Europe seemed to deteriorate yesterday as the single currency lost ground against the dollar but managed to hold its ground against sterling. Investors are becoming increasingly spooked as there appears to be an increasing lack of coherence among European policy makers on how to deal with the Greek situation as the risk of contagion to seemingly ‘safe’ heavyweights increases. The divergence in policy to tackle Greece is being overshadowed by the uncertain political situation in Spain, with Zapatero’s ruling party suffering a crushing defeat in the local elections. This political turmoil means Zapatero is less likely to be able to curtail the Spanish debt situation and meet the fiscal targets required to avoid a deterioration of the economic situation in the country. The fears of contagion are also being stoked by the ratings agencies as S&P downgraded the outlook on Italy from ‘stable’ to ‘negative’, with Belgium also suffering the same fate. A poor reading in the German business climate survey due at 09:00 could see a renewed bout of euro selling due to the fact that a strong German economy coupled with inflationary risks had been the key force behind the euro’s rally over the last month. The chances of a poor number increased yesterday after poor data out of Germany yesterday as well as weak EMU PMI figures.

USD

The dollar rallied strongly yesterday as euro worries began to dominate the market. The dollar made ground against both the euro and the pound as they were weighed down by worries over Eurozone debt contagion. The dollar surged to a 10 week high against the euro and 8 week high against sterling. The market is beginning to fear that Spain and Italy could be the next nations to be dragged into the sovereign debt spiral, with the ECB coffers becoming increasingly stretched, decreasing the likelihood of an effective bail out if things get worse. It seems that the dollar’s safe haven appeal may be returning among ever-more volatile markets.

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Written by Tom Tong

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