Keith reviews the summer currency market and shares his views of what the autumn holds for the euro and the pound.
Pound enjoys improved summer
Although the pound enjoyed a sustained 1.20 – 1.22 range against the euro throughout the much of the summer, the beginning of Autumn will prove somewhat troublesome for strategists, economists and policy makers as holding at this higher level will exacerbate fears of a double dip recession and cause concerns over the fragility of the UK’s economy, thereby undermining consumer confidence and alienating the private or retail investor.
Double-dip recession?
The potential for a double-dip recession is the most prevalent concern for the Government at the moment. The Con-Lib coalition has until recently been ignoring the effect of its austerity measures on growth, preferring to talk up their moral compulsion to act swiftly, but glossing over how significant an impact they will have on unemployment and consumer confidence in the wider economy. Credit and access to liquidity for small to medium sized businesses is still a very big issue and has been since the beginning of the financial year. Whilst one should remain optimistic about Britain’s ability to weather a potential return to negative growth in the long term, in the short term the pinch is genuinely yet to be felt by many households. Youth unemployment is the highest it has ever been, and this is not because employers don’t want to take on new staff out of principle, it is because their access to cash has been cut off by the banks who are challenging the viability of the majority of SMEs based on their disappointing performance over the past 18 months.
Retailers have benfited
Over the past two years retailers have benefited from an increase in the foreign footfall in high profile shopping destinations like London. The weakness in the pound meant that retail sales figures were higher than expected over the summer of 2010 with an influx of foreign money coming from Europe, the US, Australia and South Africa; but the improvement of the pound against a number of major currencies since Prime Minister Cameron came to office, coupled with a rather inflexible attitude towards visa applications for tourists and students from the emerging markets, may cause the MPC and the Government to take a closer look at who, if anyone, is really benefiting from a stronger pound at this stage. It is fair to say that importers are enjoying a little respite because they are able to buy cheaper within the EU, but the exporters are increasingly worried that the pound’s improvement since May has already dented the UK’s chances of a sustainable recovery and its competitiveness globally. It must be conceded that 14% of British GDP is based on the export market, but UK Plc needs all the help she can get given fierce competition from Germany and the Far East.
Speculation of UK interest rate rise
One of the main drivers behind the improvement in the pound has, and continues to be, speculation over the increase in UK interest rates. Traditionally an increase in interest rates is the default measure used to curb inflation. Strangely though, the Governor of the Bank of England stated earlier in the year that he expects inflation to settle down by the end of the year anyway, which highlights a stale mate between liquidity and risk within the banking sector. More money being brought into the markets would grease the wheels of the retail sector because small businesses are able to borrower at fairer rates. Quantitative easing is likely to be raising its ugly head again over the coming few months, precisely because the Bank of England can’t afford to use interest rate increases as a weapon against inflation. One has to question why the market is so optimistic about rates going up, and going up quickly in the beginning of 2011. Banks including RBS are widening their margins when it comes to loaning to individuals. House prices are in fact dropping fractionally despite limited stock that would normally see demand increase and thusly values go up. So we are still clearly sitting very much in a credit dry market.
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