British Pound Takes Center Stage as Central Bank Publishes Inflation Report

Key Overnight Developments

• UK Consumer Confidence Down to Lowest in 14 Months, Says Nationwide
• Japan’s Machine Orders Disappoint, Producer Prices Turn Negative Again
• Australian Consumer Confidence Hits 7-Month High as RBA Pauses Rate Hikes
• US Dollar, Japanese Yen Rise as Risk Aversion Sinks Asian Stock Exchanges

Critical Levels

The Euro and the British Pound slumped in overnight trade, down 0.4 and 0.3 percent respectively against the US Dollar as stocks sold off in Asia, boosting demand for the safety-linked greenback as well as the Japanese Yen amid broad-based risk aversion. The MSCI Asia Pacific regional benchmark index fell 0.8 percent after the US Federal Reserve delivered a lackluster assessment of the world’s largest consumer market, spurring fears about the continuity of the global recovery. We remain flat EURUSD and GBPUSD.

Asia Session Highlights

UK Consumer Confidence fell for the third consecutive month to hit the lowest level 14 months according to a report from the Nationwide Building Society. The outcome was chalked up fears about the likely impact of the government’s austerity budget that aims to trim the public deficit by a hefty 6.3 percent of GDP by 2014-25 with a mix of spending cuts and tax hikes all the while unemployment continues to hover at 14-year highs and inflation stubbornly holds above 3 percent.

Japan’s Machine Orders fell 2.2 percent in the year through June, marking the first decline in four months. In month-to-month terms, orders grew 1.6 percent, disappointing economists’ forecasts for a more substantial 5.4 percent increase. The outcome reinforces negative cues noted in current account figures released earlier this week, hinting that Japan’s export-driven recovery is losing momentum on increasingly lackluster overseas demand. Separately, the Domestic Corporate Goods Price Index unexpectedly fell in July, putting wholesale price growth back into negative territory after gains in May and June. The outcome reinforced continued deflation that is likely to keep monetary policy at an accommodative setting for the foreseeable future, as noted in the statement accompanying yesterday’s Bank of Japan interest rate decision.

Westpac Bank reported that Australian Consumer Confidence added 5.4 percent in August to hit the highest level in seven months. Westpac chief economist Bill Evans said the most important factor [driving the improvement] was the decision by theReserve Bank of Australia to keep [interest rates] steady.” The RBA has been on hold with benchmark borrowing costs at 4.5 percent for the past three months.

Euro Session: What to Expect

The release of the Bank of England’s Quarterly Inflation Report headlines the economic calendar in European hours. The outcome will take on particular significance this time around considering it will take into account the government’s ambitious deficit-cutting plan that aims to trim the fiscal shortfall by a hefty 6.3 percent of GDP by 2014-15. Mervyn King and company remained mum once again following last week’s rate decision, leaving traders still eager to size up the central bank’s take on the plan’s implications for economic growth and monetary policy going forward.

On balance, government spending has been a key driver of the UK recovery, hinting that the significant retrenchment on the fiscal side will call for monetary policy to (at least) remain at the current, accommodative setting for the time being to prevent a slide back into recession. In fact, a convincing argument can be made for further easing despite stubbornly high CPI inflation as temporary upward pressures including a weaker sterling filter out of the equation.

Elsewhere on the docket, UK Jobless Claims are expected to fall 17,000 in July, marking the smallest decline in six months and hinting that the tepid improvement in labor conditions noted since February may be losing steam. The Claimant Count – a proxy for the unemployment rate – is expected to hold steady at 4.5 percent.

Turning to sentiment, US index futures are trading sharply lower, down 0.6 percent in late Asian trade to hint that risk aversion will continue to drive the safety-linked US Dollar and Japanese Yen higher against the spectrum of major currencies.

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