UK falling inflation allows further room for QE, as sterling falls ahead of MPC minutes and Bernanke testimony

Tom Tong22/May/2013Currency Updates

GBP

There was a high level of activity for sterling yesterday following the Government’s Inflation Reports. Consumer inflation slowed to 2.4% in April, from the March level of 2.8%. This drop was greater than most analysts predicted, and the lowest level since September 2012. Even more worrying is the fact that the inflation rate for Core prices (these exclude energy and food) fell to 2%. This is a negative for the strength of sterling as it has dramatically increased the likelihood of more monetary stimulus.

All of this lead to sterling falling to a six week low against the dollar, and dropping against all but one of its 16 major counterparts.

Global appetite for risk assets has kept the Stock Market rally continued at a fast pace, with the FTSE reaching its highest levels since 1999.

Figures released have shown that London is bucking the national trend for rising house prices. Whilst the national average is a modest 2.7% rise, London posted a massive rise of 7.6%, thus meaning that when you exclude the sharp London rise, the rest of the UK’s housing industry is not recovering as quickly as it at first appears. Scotland and Northern Ireland posted falling prices on the previous year.

All eyes will be on the minutes of Bank of England MPC meeting which are released today. These will be a good guide to see how the recent positive data has affected the MPC’s stance towards further Quantitative Easing.

USD

The greenback strengthened against GBP as the yield on the 10 year treasury rose nearly 2% and an improvement in risk sentiment. However, the dollar declined against the euro for a second day before Bernanke addresses Congress amid speculation the US hasn’t recovered fast enough to warrant a reduction in QE.

The Fed is buying $85bn a month in Treasury and mortgage debt to push down borrowing costs and spur growth.

Markets will turn to the minutes released by the Federal Reserve Chairman this evening with expectations that the central bank will continue its bond buying programme and a revision of its growth prospects. Existing home sales are expected to increase from 2.29M to 4.99M; the only data release of note.

EUR

With a quiet day in terms of top-tier data releases, it was a case of investors positioning ahead of Bernanke’s address. The euro reached a session high against the USD on Tuesday – up by approximately 0.2% at the peak of the day – after trading within a relatively tight range for most of the global session. The only data of any real note released yesterday from the eurozone were the German PPI figures which were slightly worse than expected.

Bundesbank data released yesterday revealed that German banks borrowed less money from the central bank during April than ever before during the 13-year history of the common currency on the back of the ECB’s liquidity operations. The Bundesbank’s balance sheet published in its monthly report for May illustrated that the German banks borrowed a mere €14.8b over the course of the month – significantly less than its previous record euro-era low of €21.3b in October 2011. The data release made it patently clear that the banks of Europe’s largest economy are increasingly able to source funding more cheaply on the market than via central bank funds. Nevertheless, this is a drastically different story in the periphery where Italian and Spanish banks, for example, have significantly reduced access to interbank markets and ultimately have to rely solely on central bank funds for refinancing purposes.

ZAR

The rand declined for a 9th consecutive day hitting a four-year low, as violent protests in the mines renew the concern that labour disruptions will cut mining output and slow economic growth.

CHF

Another line of note is the fact that the Swiss franc traded at a four-month low versus the euro this morning, with speculation of deflationary risks within Switzerland. With demand for safe-haven currencies tapering, and the Swiss central bank looking to impose measures to counteract deflationary pressures, this is a trend to follow in the coming weeks.

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Written by Tom Tong

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