US fiscal cliff averted as Sterling hits 16 month high against the Greenback

Tom Tong02/Jan/2013Currency Updates

GBP

Sterling made gains overnight as the US fiscal cliff was averted at the eleventh hour. This move saw a rally in riskier currencies and the dollar sold off, as such the Pound made gains against the Greenback and is now trading at a high not seen since September 2012.

Excessive rain and a poor harvests in the UK hit the agricultural sector hard in 2012 with the longer term overall economic input from the sector being effected accordingly. This reduced tax and labour contribution from one of the larger sectors of the UK economy, coupled with a rise in insurance claims due to flooding damage could add to fears of an economic downturn over the first quarter of the year.

EUR

The Eurozone continues to bite the bitter pill of austerity but major sovereign defaults seem to have been avoided for the next few months at least. In the Eurozone, 9 out of 17 countries are seeing contracting output, with many of these countries finding credit constraints an issue for financing business growth. This is mainly due to the level of weakness in European banks. Draghi’s outlook is generally positive for Euro in the first quarter. Making it clear that countries like Spain will have their bonds bought by the ECB with little complication, means a greater propensity for fiscal stimulus in said countries, which should mean a stronger Euro ( keeping all other things equal).
In addition, the euro has sharply strengthened against the dollar this morning, owing to news on the fiscal cliff.

USD

The yen and dollar weakened against most major counterparts as U.S. lawmakers passed legislation to avert the so-called fiscal cliff of automatic spending cuts and tax increases, reducing demand for safe haven assets.

President Obama said he will sign the bill passed by Congress that makes the George W. Bush-era income tax cuts permanent for most workers while letting them expire for top earners. The bipartisan vote in the U.S. House broke a yearlong impasse over how to head off $600 billion in tax increases and spending reductions set to begin taking effect at the start of this year. Regardless of the outcome of the fiscal cliff debate fiscal policy is likely to hit U.S. growth, the news is likely to be a weak dollar story, fairly broadly, in the first few months of the year. This is a typical risk-on market, where the yen and dollar are sold.

The President of the United States won the race of time to save the economy from a package of automatic tax hikes and spending cuts together worth €607bn . The US economy avoided the the fiscal cliff yesterday when Republicans in the House of Representatives rejected a bipartisan budget compromise passed in the Senate.

We are far from hearing the last of the Fiscal Cliff, as cuts of $110bn which would have started in January will be back again in two months time as our attention turns to the debt-ceiling. The US Treasury announced on the eve of the fiscal deadline that the country had hit its borrowing limit of €16.394trn. The failure to reach a concrete, long term agreement on taxes and spending has provided the White House and Congress a platform for further negotiations in the coming months, the country will increase its borrowing limits whatever happens with the Fiscal Cliff. With the resounding vote in favour of the proposals, representatives sent out a robust message to the markets that US policymakers are determined to do what ever it takes to steer the world’s largest economy away from recession.

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Written by Tom Tong

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