Foreign Currency Report 05 April 06

GBP

Sterling fell to an 8-month low against the Euro yesterday as talk of currency diversification into the single currency kept the pound under pressure.

Sterling was supported by figures showing Britons extracted the most amount of equity from their homes in more than a year in the last three months of 2005, perhaps encouraged by a housing market recovery. The Bank of England said on Tuesday mortgage equity withdrawal rose to 11.806 billion pounds, or 5.6 percent of post-tax income, over the quarter.

Any good news for Sterling however was expected to be capped overall by diverging interest rate outlooks between the UK, Euro zone and U.S.
The Bank of England, which meets later this week, looks set to keep rates on hold at 4.5 percent. This comes at a time when both the European and U.S. central banks have suggested further interest rate hikes.

EUR

The Euro powered to a record high against the yen and gained more than 1 percent against the dollar, boosted by speculation about central bank reserve diversification out of dollars and expectations for higher Euro zone interest rates.

An unexpected fall in the Eurozone unemployment rate to 8.2 per cent, coupled with a jump in producer prices, fuelled speculation that the European Central Bank will raise rates in May, and tighten further later in the year.

USD

The US dollar fell sharply yesterday, hitting a 10-week low against the Euro.

It is suggested the dollar weakness is due to a return of fears that Asian and Middle Eastern central banks may be about to diversify their reserves out of the dollar, re-opening the debate over the funding of the vast US current account deficit.

Comments from a politician in China affected the dollar, then Kuwait and Qatar joined the United Arab Emirates in suggesting that they might buy more euros, at the expense of the dollar.
The other explanation to the dollar weakness based upon mounting expectations that US and eurozone interest rate differentials will narrow this year.

In the US expectations are that the Federal Reserve will call it a day after taking rates to 5 per cent in May.

ZAR

The South African rand rose on continued feedthrough from buoyant gold prices and the possibility of a rating upgrade thanks to record foreign exchange reserves.

THB

The Thai baht also rose as Thaksin Shinawatra, the prime minister, said he would step down to end a long running political crisis.