Foreign Exchange Daily Market Update

Wed, May 11, 2011

With no economic data out yesterday to support the Pound, the currency performed well, holding narrow trading ranges against the Dollar and the Euro. After an initial fall during the early hours, the Pound maintained levels between 1.6390 to 1.6334 against the Dollar, and 1.1410 to 1.1370 against the Euro. Fears over today's Bank of England (BoE) Quarterly Inflation Report led to the currency's initial decline. There is a growing sentiment amongst market traders that the report may reveal that the UK's economic growth prospects have lowered, an outcome that would weigh on the currency. This fear is supported by recent economic data, notably PMI readings for services, manufacturing and construction, which have all come in below economists' expectations. Further declines in the exchange rate could be seen if the report also suggests that the BoE will refrain from raising interest rates this year.

Before we see the BoE report though, a key figure will be March's visible trade balance. Analyst's expectations call for the trade deficit to widen to £7.5 billion from £6.77 in February. Wide trade deficits typically bring about a natural decline in the currency as it indicates a higher volume of goods imported than exported.

The Euro recovered from overnight losses in the early hours of yesterday's European session. This move came despite reports from France and Italy that the pace of industrial and manufacturing production in March slowed from February, with France reporting an overall contraction. The Euro did rally when news broke that Greece could receive €60 billion in aid as soon as June, to help it meet funding requirements, however the currency quickly fell back when Greek officials denied the claims. After some choppy movement in the rate, the Euro settled at levels around 1.4400 against the Dollar.

Today's European figures already released were the final revisions to Germany's Consumer Price Index for April. Month-on-month Germany's inflation rate came in line with preliminary readings at 0.20%, and annually the index performed as expected with 2.40% rise in prices. The only surprise was Harmonized Index of Consumer Prices (HICP) which showed an annual price growth of 2.70%, higher than the market forecast for 2.60%.

Turning to the US, import prices rose in April to 11.1% annualized, beating forecasts for 10.5%, while month-on-month price growth rose to 2.2%, again beating forecasts for 1.8%. The sharp increase in prices was owed to the rising food and fuel prices, as well a growing demand for goods produced in Latin America and China. As the cost of importing goods rises, so will the purchase cost to consumers, which may press the Federal Reserve to act over what is a potential inflation risk. However the Fed seems unlikely to raise rates as Chairman Bernanke has indicated that the central bank sees longer-term inflation expectations to remain stable and that current spikes in prices, as the above figure show, are only temporary.

Today will see another light economic docket from the US, with the only real item of interest being the nation's Trade Balance for March. Economists expect the world's top economy to report a wider trade deficit of $47 billion compared to February's deficit of $45.8 billion. The wider deficit would tally with the higher than expected increase in import prices and the aforementioned rise in demand for goods made in emerging markets. Such an outcome does have the potential to push the Dollar lower.

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