Exchange Rates and Market Commentary [21/10/2011]

Good morning. The global markets are in a state of suspended animation, waiting for the outcome of Sunday’s summit meeting. Expectations however, have been moderated as EU leaders have made their differences on key issues known. The final size of the EFSF bail-out fund and how it will be leveraged remains unresolved. One thing becomes reasonably clear though, the ‘haircut’ loss of 21% on Greek bonds agreed before, should go up. The Germans are proposing up-to 60% (sorry for the reminder!), while the French are opposed given the high exposure their banks have to Greece. Sunday’s crucial meeting has been extended to Wednesday; that should let Angela Merkel gain approval from a Bundestag budgetary committee.

The Greek government managed to pass the latest round of austerity measure amid riots in Athens and nationwide civil disobedience. Painful structural adjustment being witnessed by an inefficient economy that artificially inflated the country’s expenses without bothering to improve its income, borrowing like there’s no tomorrow.

Britain has reasons to be worried if the proposed €2 trillion EFSF expansion takes place. The EU may witness strong inflation, and Britain being the EU’s biggest trading partner, will import inflation form the eurozone. CPI data released two days back already pegs inflation at 5.2% in Britain, things may spiral out of control since the BoE’s latest quantitative easing announcement is expected to aggravate the situation further in the near-term.

One of the ex-board member’s of the European Central Bank, Otmar Issing, warned that giving banking license to European Financial Stability Facility (EFSF) to participate in refinancing activity will harm price stability in the region.

“The Treaty governing the monetary union forbids monetary financing of the public sector. Whoever mulls lifting this ban opens the gates of states, of politics, to the banknote printing press. One look at the history of money – especially German history – is enough to measure the unavoidable consequence,” he observed in an article in the German daily Handelsblatt.

In an unrelated development, French Prime Minister Francois Fillon said the 17 member EU is “resolutely” moving towards an economic government while addressing businessmen in Seoul. Classic example of locking the door after the horse has bolted! In hind sight, a common currency within a very disparate group of economies probably wasn’t the best idea in the first place. The British government and the BoE deserve compliments for showing the wisdom of not giving up on the country’s sovereign currency in favour of the euro.

GBP/EURO – 1.1459
GBP/US$ – 1.5771
GBP/CHF – 1.4029
GBP/CAN$ – 1.6054
GBP/AUS$ – 1.5561
GBP/ZAR – 12.8942
GBP/JPY – 121.15
GBP/HKD – 12.2819
GBP/NZD – 1.9934
GBP/SEK – 10.4523

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EURO: The common currency fell against the greenback yesterday after it became apparent that a resolution on Greek won’t happen anytime soon. German Finance Minister ruled out leveraging the EFSF by ECB and uncertainties continued to weigh down the euro yesterday. The euro remained range-bound in the 1.3650 and 1.3850 region. The Sterling also remained in range-bound yesterday against the common currency in the 1.1400-1.1500 band. The GBP/EUR pair opens at 1.1470 today morning.

USD: Surprise growth in retail sales number in the UK in September supported the GBP/USD pair yesterday. The Cable neared the 1.5800 level a few times but eventually settled at 1.5700. The GBP/USD pairs open at 1.5785 today morning.

Elsewhere, the South-African rand lost 2% yesterday against the Sterling to hit the highest level since 2009 end. The antipodean currencies – the AUD and the NZD, remained choppy against the greenback yesterday. The GBP/NZD and GBP/AUD pairs open at 1.9930 and 1.5438 today.