Higher import costs see rate of inflation move higher

Data this morning has revealed a rise in consumer prices, with the UK rate of inflation moving to 3.4% in March.

Market forecasts had expected a more modest rise of just 3.2%. Higher import prices, and the rising price of energy have kept upward pressure on inflation. The figure remains some way above the Bank of England’s 2.0% target, and Governor Mervyn King will again have to write a letter to Chancellor Alistair Darling explaining the rise. The Bank has forecast that the rate will fall back over the medium term. The bigger picture is that the high degree of spare capacity in the economy will drag on overall price pressures.

Duncan Higgins, senior analyst at Caxton FX comments, “The comparative weakness of the pound is continuing to push up the cost of imports, adding to inflationary pressures. The market is expecting the rate to fall as the year wears on, though the argument for raising interest rates will soon begin to build should inflation fail to slow.”

The pound briefly bounced in the wake of the news, but slipped back to pre-data trading levels as rumours beforehand had anticipated a higher figure. Currently sterling is holding just below €1.14 against the euro and is up around half a cent against the dollar, with the price hovering near $1.54.

“Any true upward momentum for the pound will be tough to come by with a range of figures this week still to be released, including first quarter economic growth. Market focus is also turned to the next leaders debate. Following the reaction seen in the polls previously, investors will be cautious of taking sterling too high ahead of Thursday evening,” continues Higgins.

UK trade deficit beats expectations, pushing sterling up

Data this morning has shown that the UK trade deficit narrowed substantially in February following the disappointment of January’s figure.

A deficit of £6.2 billion was recorded for the month, some way from the median forecasts, which had called for a more moderate narrowing of the deficit to £7.3 billion. The last time the monthly deficit was at this level was in August 2009.The data should raise expectations that the UK can bring its debts under control. It also reveals the positive impact that the weak UK currency has had in lifting demand for British exports.

Duncan Higgins, senior analyst at Caxton FX says, “Sterling’s lowly rate is finally beginning to pay dividends. Its broad undervaluation in recent months has increased the competitiveness of UK exports, supporting a slight rebalancing of the deficit.”

“Certainly the data is supportive, and marks a positive step in reducing overall debt, but the road ahead will remain uneven. The incoming government, be it a single party or a coalition, needs to detail a precise strategy for financing the huge debt burden that lies on the UK economy. A steady appreciation of the pound will have to wait until the market is satisfied that such a plan has been clearly outlined,” continued Higgins.

Improved sentiment in the wake of the figures has given sterling a slight boost, bringing it off this morning’s lows. The pound is now trading comfortably back above €1.13, though remains some way from its seven-week high hit at the end of last week. It is also approaching 1.54 against the dollar, up fractionally on the day.

BoE keeps rates at 0.50%

In a scheduled announcement, the Bank of England has again kept its interest rate at 0.50%.

Even the most optimistic of forecasters do not see an increase in UK rates until the final quarter of this year. The Bank also kept their quantitative easing programme on hold, leaving the budget at £200 billion. In light of the latest figures, most recently better-than-expected manufacturing data released this morning, the question of a further extension to the budget seems to be fading. Following the upward revision to the UK's fourth quarter GDP figure and positive prospects for growth in this quarter, fear of the double-dip recession is receding. The Bank is still aware of the headwinds though, and is unlikely to dismiss the possibility of further monetary easing until conditions are more stable. Shortly, BoE Governor Mervyn King will give a statement on the progress of their monetary policies.

The pound is continuing to trade up this morning following the announcement, with direction in the short-term likely to come from developments on the campaign trail. Growing dissent in the business community over Labour's proposed National Insurance rise has solidified the Tories lead in the latest polls, with many leaders taking exception to Prime Minister Gordon Brown's assertion that they were being "deceived" by the Conservatives. However, the pound is unlikely to push too much higher despite continuing concern surrounding Greece's fiscal situation. Rhetoric from the Bank is still of a weak, protracted recovery and the growing possibility of a hung parliament will keep sterling on the back foot. The outlook for sterling against the US dollar remains on the downside and we are expecting further falls in the near term.

Weak UK services data takes the shine off sterling

Data this morning has revealed a slight fall in the UK services Purchasing Managers Index.

The index is a measure of the economic situation in Britain’s services sector. As the driving force of the UK economy, services data captures a good overview of conditions and has a substantial impact on sterling’s direction. Although today’s reading is still well above 50.0 marking industry expansion, the index fell to 56.5 in March, from 58.4 in February. This disappointed market expectations, which called for a more modest fall in activity to just 58.1. In response the market has taken the pound lower, though damage appears to be limited with the upcoming election taking centre stage at present.

Duncan Higgins, senior analyst at Caxton FX says, “The data is disappointing, but it is worth noting that its bearing on GDP is not as great as the manufacturing PMI, which showed strong improvement on the month. However, it underlines the still fragile nature of the recovery, with an improving trend in the services sector yet to re-materialise.”

The pound has dropped off by around a quarter percent against both the dollar and euro but has recovered some of those losses.

“The market at present is preoccupied with the upcoming election and developments from the eurozone. Over the next few weeks, sterling’s movement will be predominantly dictated by the opinion polls, with economic figures taking a bit of a back seat,” continues Higgins.

At present the pound is slipping further from €1.14, having touched 1.1412 earlier this morning. Against the dollar, sterling is holding above $1.52, half a cent down on the day.

NZD closed nearly flat on the day, with weak comments about UK banks halting the pound's upward movement and risk aversion providing support.

• The markets have been cautious this week, not only as fears grow about the eurozone but also ahead of the US GDP figure due this afternoon.
  
  
• Investors have shunned risky assets, with the kiwi moving lower this morning, with markets waiting to see if the US economy hits its growth forecast.
  
  
• Currently the pound is up above 2.29, at a near two month high.

AUD - Sterling edged lower against the Australian dollar yesterday, ending a three day upward streak as the UK banking industry came under fire.

• The pound relinquished early gains after a credit agency said that UK banks can no longer be classed among the most low-risk in the world.
  
  
• Sterling was prevented from falling too low though with risk aversion remaining on concern over the strength of the global recovery.
  
  
• The Nikkei 225 fell 2.1% and the MSCI Asia Pacific Index of regional shares dropped 1.8%, sapping demand for the aussie.
  
  
• Indeed the pound is marginally higher this morning, with the price consolidating above 1.80 following some positive confidence data from the UK economy.

€/$ The euro maintained its downward spiral against the US dollar yesterday, losing a further half cent to close some way below 1.40

• The euro fell to the lowest level in more than six months against the dollar on concern Greece's fiscal problems will spread, damping demand for European assets.
  
  
• Greek Prime Minister George Papandreou has said the country does not need to borrow from European nations. However, investors are beginning to doubt the nation can reduce the biggest budget shortfall in the European Union without assistance from outside.
  
  
• In the US, data revealed the number of people claiming jobless benefit fell last week, though was still higher than the market expected, which saw the dollar par its gains.
  
  
• In trading this morning the pair is holding around the overnight closing price. Investors are awaiting a report, which may show the euro-zone's unemployment rate has reached an 11-year high.
  
  
• US GDP figures in the afternoon could also move the markets, with the economy expected to have risen at an annualized rate of 4.5% in the 4th quarter of 2009.

£/$ Following negative comments concerning stability of the UK banking sector, sterling fell from its day high to close lower against the US dollar.

• In early trading the pound rose steadily, continuing to garner support following comments that the rate of inflation is moving beyond the BoE's targets.
  
  
• Having risen to a one week high against the dollar in the early session, the pound slipped back sharply, losing 0.85% after a report from credit agency Standard & Poor's that highlighted the risks of UK banks.
  
  
• S&P later confirmed that the report was an expanded version of a report issued on Dec. 21 st, but it was enough to send jitters through UK markets, pushing the FTSE 100 closing down 1.4%.
  
  
• Trading this morning has seen the pound recoup some of its losses as investors remain cautious ahead of the advanced GDP numbers from the US economy, due for release at 13:00.

£/€ 5-month high of 1.1623 yesterday, the pound slipped back sharply in the afternoon to close only marginally higher on the day

• The pound was broadly firmer throughout most of the day on persistent positive sentiment towards the currency in the wake of hawkish comments from Bank of England policymaker Andrew Sentence.
  
  
• Sterling pared its gains though following negative comments from rating agency Standard & Poor on the UK banking system.
  
  
• The agency said Britain was no longer classified as being among the most stable and low-risk banking systems in the world, adding Britain's weak economy would continue to hinder the industry's credit profile.
  
  
• Sterling was sold heavily following the announcement, though remained firmer against the euro as concerns over the fiscal health of Greece and Portugal dented the single currency.
  
  
• In trading this morning the pound is gaining steadily with the markets watching carefully for the eurozone unemployment figure due at 10:00.

NZD - £ also rose a full cent against the kiwi yesterday, with investors cautious ahead of the Reserve Bank of New Zealand's interest rate decision

• In the evening, New Zealand's central bank reaffirmed that it saw no need to raise rates before mid-year given tame inflation.
  
  
• Expectations of a rate rise in March have dipped following the Bank's announcement, though the kiwi is trading marginally higher this morning following Obama's speech.
  
  
• Asian shares took a boost from the US President's comments, buoying demand for higher-risk currencies. The price at the moment is hovering above 2.28.