Excel Currencies Daily FX Market Rates 10th

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Main News Daily Update

There were warnings from two ratings agency raised the spectre of downgrades for British banks. Financial markets appear to have paused for breath after the sizeable gains in seen in stock markets last week. Today’s data calendar features January industrial production data in both the UK and France. For the UK, Lloyds look for a month-on-month increase of +0.3% as cold weather conditions boosted energy demand. For the underlying manufacturing component, they anticipate a more modest rise of 0.1% month-on-month, following December’s robust +0.9% outturn. UK Industrial Production is set to fall 0.8 percent in the year to January, the smallest decline in nearly two years. However, yesterday’s unexpected 4.4 percent drop in exports – the largest in over three years – bodes ill for manufacturing going forward, hinting that lackluster demand will keep output subdued even as the government makes a push to make overseas sales the centre-piece of its strategy to build a firm recovery in Europe’s third-largest economy. That said, number of leading output indicators remain well-supported, with a gauge of production expectations from the Engineering Employers Federation turning positive for the first time since 2008 last month while Manufacturing PMI held at the highest in at least three years over the same period. Rumours suggest that heavy snowfall created logjams at ports in January, which may resolve the disconnect between trade and these leading figures, so traders will likely need to wait for further evidence before making any firm conclusions about the trajectory of the UK industrial sector. The comments by MPC member Barker this week, her view that the UK economy ‘is still looking fragile’ and that the ‘response to the pound drop is disappointing’ cooled some of the enthusiasm that emerged following last week’s PMI. Recovery sceptics have a point when they argue that the 2.2% gain in BRC Feb retail sales was mainly because of base effects (low sales in Feb-09), and that the RICS house price balance hit a 5-month low. News that the UK government ran a budget deficit of £4.3bn last month has underscored concerns about the UK’s public finances. The fact that the deficit occurred in a month when inflows of tax receipts are at their peak is highly unusual. Indeed, it is the first time January has posted a deficit since the government starting compiling figures on a monthly basis in 1993. The latest deterioration brings the cumulative budget deficit in the current fiscal year to £122bn, compared with £58bn over the same period in FY2008-09. Although a marked deterioration, the Treasury nevertheless remains on course to meet, if not slightly undershoot, its revised full-year public sector net borrowing (PSNB) projection of £178bn made in the Pre-Budget Report. In this regard, the government has been aided by the stronger-than-expected recovery in asset prices (both housing and equities). The magnitude of the deficit, however, has led to calls for the Chancellor to go much further in tightening fiscal policy in the upcoming 2010 Budget. These calls have become more pressing in light of the difficulties some of the peripheral highly-indebted eurozone countries, notably Greece, have faced in recent weeks. Nevertheless, as others have argued, a further aggressive policy tightening at this stage of the economic cycle could imperil the nascent economic recovery. Looking at the Treasury’s 2009 Pre-Budget Report projections for public sector net borrowing and net debt (as a percentage of gdp). As a result of the measures already announced, public sector net borrowing is projected to halve to £81bn over the next five years to 4.4% of GDP. It will be eight years, however, before PSNB is brought broadly back into balance. Clearly, there is some scope for the Chancellor to announce a swifter and more aggressive reduction through additional cuts in public spending and tax increases. Lloyds suspect he will do so, but delay their implementation until next year or beyond. With an eye on placating the credit rating agencies, the Chancellor is likely to announce further measures to rein in the public finances in the upcoming Budget. Various measures have been mooted: an increase in VAT; changes to inheritance tax; further reductions in public spending (most likely through seeking additional efficiency savings); as well as further increases in sin and environmental taxes. So far, two-thirds of the burden of fiscal tightening has fallen on public spending restraint and the other third on tax increases. It is possible that the Chancellor could stick to this mix. Given the fragility of the recovery, however, the bulk of any additional restraint is likely to be focused on the medium to long term. There is already a substantial fiscal tightening scheduled from 2011 onwards. To front-load further measures while the consumer and business sectors remain fragile would risk undermining the economic recovery. Despite GBP depreciating by a sharp 3.3% against the US $ last month, to a 10-month low (1.4783), Lloyds believe the UK pound may have further to fall in the year ahead. They have lowered our end 2010 target for £/$ to 1.44. The UK economic recovery still looks fragile, despite a slightly stronger tone to the recent data to suggest GDP may expand again in Q1. They believe it is too early to rule out further supportive action from the BoE later this year. The risk of a ‘hung parliament’ (minority government) at the upcoming General Election represents another key downside risk, as the related uncertainty could deter investors.

Yesterday, Taxing the provisional confidence behind the situation in Greece, both ECB policy maker Weber and EU head Barroso voiced doubts about the efficacy of a European Monetary Fund. Considering this is essentially the best backup plan authorities have been able to muster since panic struck the region, these remarks suggest this threat to financial stability is subsisting on speculators’ good will alone. In France, Lloyds anticipate a broadly flat reading for industrial production given the pull-back in business surveys. Other scheduled data releases include Japanese Q4 GDP, where they look for a downward revision to a 4% annualised reading from 4.6% in the previous Q4 estimate. German trade data for January, along with final February CPI, are also published. Germany‘s Trade Balance surplus is expected to expand to 14.5 billion euro in January as export volumes rise to the highest in 14 months, adding 0.5 percent from the previous month on the lingering effects of over $2 trillion in global stimulus efforts and buoyant Asian demand, particularly from China. Overseas sales may begin to flounder in the months ahead however; indeed, China’s Customs General Administration reported today that imports from Germany fell to the lowest in nine months in February. Separately, the final revision of February’s Consumer Price Index figures is set to confirm the annual pace of inflation slumped to 0.4 percent in February. Efforts by Greece to tackle its burgeoning fiscal deficit have been welcomed, leading the euro to pare back some of its losses recently. Given the sheer extent of bets against the euro, there appears potential for further short-term gains, if traders’ short positions are squeezed. However, the Greek crisis appears far from resolved and, Lloyds believe, still represents a key downside risk for the currency. The EU-16 economic recovery also appears to have stalled, with GDP growth of just 0.1% in Q4 compared with 0.4% in the previous quarter. An uneven recovery and subdued inflation pressures could see the ECB wait until next year before raising interest rates. Lloyds look for the key refinancing rate to be 1.25% at end Q1 2011, rising to 2.25% by end 2011. However, they have revised down our end 2010 €/£ target to 1.14, from 1.18 previously.

The National Federation of Independent Business’ small business sentiment index fell unexpectedly in its February reading. The headline reading matched its lowest reading in seven months and the expectations component that projects conditions over the coming six months hit its worst level since March. Looking at the reports details, there was a notable easing in the pace of job cuts (small business account for a large majority of American jobs); but “poor sales” stood as the top concern, the outlook for demand dropped to a zero reading and investment expectations were similarly mixed. From a market-moving perspective, this data promises little. On the other hand, as a gauge of fundamental health, this indicator has a scope similar to the ISM surveys. With a similar outcome, the IBD/TIPP Economic Optimism poll itself fell to a year low with a March reading of 45.4. In comparison to the economic data, Chicago Fed President Evans’ commentary carried a little more weight. Notably more dovish than some of his colleagues, Evans said he was worried that unemployment may tick higher and he was “wary” of engaging in asset sales too early. Furthermore, he added to his time frame for rate hike in suggesting the benchmark should be held low for “three or four meetings,” though he did echo a belief that interest on reserves would be an effective measure in the near-term. US dollar sentiment remains positive as markets anticipate the US Federal Reserve as the first major western central bank to raise its key policy interest rate. Recent data suggest that the US economy is set to post annualised growth of 2-3% in the first quarter, down from a revised 5.9% pace in Q4. However, indications for the year ahead look promising; with signs that sustained employment growth is likely to return in coming months. This should support both consumer spending and the housing market, providing the basis for raising the Fed funds rate from its record 0-0.25% low within the next 12 months. Lloyds forecast €/$ to decline to 1.27 by end- 2010, falling to 1.23 by end Q1 2011.

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