The currency blog

The pound strengthened to 1.22 against the Euro yesterday for the first time since November 2008. Sterling continues to benefit from the UK budget announced earlier this week and the news that one MPC member voted for a rate hike this month. A strong response from the credit agencies took away fears that the UK’s AAA rating could be downgraded.

Concerns over the European debt crisis were on the rise again yesterday with Greek credit default swaps hitting a record high. ECB president Trichet said he is “pleased” with Germany’s decision to concentrate on fiscal discipline, he also commented that the idea that austerity measures could trigger economic stagnation is “incorrect” and he does not think the risks around deflation will materialise. Another cause for concern in the Eurozone is the requirement for European banks to repay the $540bn of ‘special’ 1-year loans that they borrowed from the ECB. The added problem here is that a number of the banks used the loans to buy up bonds in Greece, Spain and Portugal - fixing in a healthy interest margin in the process. Now they have to repay their ECB loans, the banks may decide to offload some of these bonds, which could reignite tensions in European financial markets.

The dollar dropped for a second day against the euro as markets believe the Federal Reserve will keep interest rates near zero through the middle of next year as the US economic recovery falters. Fed officials said at a policy meeting earlier this week that financial conditions have become “less supportive” of economic growth. US data yesterday showed durable goods orders fell 1.1% m/m in May after a 3.0% gain in April. The entire decline reflected volatility in transportation orders. Orders excluding transportation items rose 0.9% m/m in May after a 0.8% decline in April. Also, US initial jobs claims fell slightly more than expected to 457k, a fall of 19k, pointing to an improvement in the labour market that is taking time to develop.

Today, ahead of the G20 meeting in Canada, promises to be very quiet. The G8 have already had a pre-meeting meeting and although there was fairly consistent agreement on what needed to be done, there was a large divergence in the views and the methods to be used to get there. Expect more of the same once the group is expanded although I would anticipate a broadly agreed message come Sunday, especially with regards to regulatory issues for the financial sector.

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