gbp fundamentals

Euro, British Pound Consolidate Losses Post-Rate Cuts, But Long-Term Trends Remain Bearish

Friday, 07 November 2008 22:29:26 GMT  |  Terri Belkas, Currency Strategist

The euro and British pound both ended Friday marginally higher versus the US dollar, but the moves marked more of a consolidation rather than any sort of rebound.

Indeed, the long-term outlook for pairs like EUR/USD and GBP/USD remains bearish as the European Central Bank and Bank of England are both very likely to cut rates aggressively over the next year. On the euro side, we’ve already seen the European Central Bank (ECB) cut rates by 50 basis points to a nearly 2-year low of 3.25 percent. Furthermore, comments by ECB President Jean-Claude Trichet indicated that the central bank is starting to become concerned about the potential for deflation and that they would most likely cut rates again. This seems quite plausible, as growth and inflation pressures are bound to decrease further, and as of Friday’s close, Credit Suisse overnight index swaps were fully pricing in a 25 basis point cut in December.

On the British pound side, the Bank of England (BOE) unexpectedly slashed rates by 150 basis points on Thursday to bring the UK Bank Rate down to 3.00 percent, the lowest level since 1955. Meanwhile, the BOE’s Monetary Policy Committee (MPC) statement released post-announcement showed that the MPC is extremely concerned about not only the instability in the financial markets and persistently tight credit conditions, but also the significant downside risks to growth and perhaps most importantly, the risk that inflation will fall below their 2.0 percent target. The latest CPI figures show inflation growth at 5.2 percent in October, but given the economic slowdown and drop in commodity prices, the BOE has suggested that CPI will plummet in coming months. This makes the BOE’s Quarterly Inflation Report – which is due to be released on November 12 – all the more important, as it will either confirm or refute speculation that the central bank fears deflation. If the Inflation Report confirms this outlook, the news could trigger a large British pound sell-off as it will essentially guarantee further rate cuts. In fact, Credit Suisse overnight index swaps are fully pricing in a 25 basis point cut in December and 228 basis points worth of reductions during the next 12 months.

Related Article: Forex Market Impact Of European Central Bank And Bank Of England Rate Cuts

Check out Daily Fundamentals in its entirety for analysis and outlooks on the US dollar, euro, British pound, Japanese yen, and the commodity dollars.

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