Foreign Currency Report –16th November 2007

GBP

Sterling
fell to a 4-1/2 year low against the Euro as UK retail sales data was released, showing weak figures which prompted speculation of an interest rate cut sooner than expected.

The sales data, released after the Bank of England report on Wednesday, showed the first monthly fall in the data since January, suggesting a slowing in consumer spending cited as a key driver of UK economic growth.

The data accelerated a sell-off in sterling sparked by Wednesday's BoE quarterly inflation report. That showed inflation hitting its 2 percent target in two years' time if rates moved in line with market expectations, which imply two cuts from 5.75 percent during 2008.

Senior traders have said "It was a bit of shock for some to see the Monetary Policy Committee accept that rates are probably going to come down and today's numbers ... confirmed the slower tone in consumer spending".

The Euro rose to its strongest since June 2003 and coming within a penny of record highs set 4-1/2 years ago.

Sterling
fell to a three-week low of $2.0422 on track for its biggest one-week percentage fall since August, before trimming losses to stand at $2.0482.

Sterling
also weakened versus low-yielding funding currencies, as weaker stock markets fanned risk aversion and led investors to unwind carry trades.

EUR

Rising milk, cheese, egg and bread prices have helped push inflation in the Euro zone to a two-year high. Year-on-year inflation in the 13 countries that use the Euro rose 2.6% in October, up from 2.1% in September.

Price inflation is at its highest level since September 2005, due also to spiralling oil prices which have forced up the cost of petrol. The European Central Bank (ECB) has indicated it would be prepared to raise interest rates to subdue inflation.

ECB policymakers left interest rates on hold at 4% last month, at a time when the US is cutting borrowing costs and the Bank of England is under pressure to do the same.

But in its latest economic bulletin, the ECB said it "stood ready to counter upside risks to price stability". According to the EU's statistics agency, food prices are now 3.8% higher than a year ago. This is due to a range of factors including the extreme weather in many parts of Europe this summer that reduced crop yields, and ravenous demand for dairy products in China.

The annual rate of inflation across the EU as a whole rose to 2.7% last month, from 2.2% the month before. This figure masks huge disparities in inflation between member states.

Annual inflation is now running at 13% in Latvia and 10% in Bulgaria, while in Malta, the Netherlands and Denmark inflation remains below 2%. Despite the latest figures, the ECB said its forecasts still suggested average inflation would remain at about 2% next year.

The ECB is having to balance concerns about rising inflation against clear signs that the weakening US economy and the global credit squeeze is likely to dampen growth across much of Europe next year.

USD

The Dollar rose against the Euro but slipped against the yen yesterday as fears about the effects of the credit crunch and falling equity markets led investors to pare back on profitable trades.

After a report showed core U.S. consumer inflation in October was in line with forecasts, dealers began cutting their bets against the dollar, which had become quite stretched.

"There is not a lot of enthusiasm to sell the dollar at current levels," analysts said.

The Dollar has fallen more than 9 percent against a basket of major currencies in 2007 to record lows last week.

The Euro slipped 0.2 percent against the Dollar, trading at $1.4625, more than a cent off record highs above $1.4750 hit last week.

The New York Board of Trade's dollar index, which tracks the greenback against a basket of six major currencies, rose 0.2 percent to 75.957.

The Dollar fell 0.7 percent to 110.55 yen, weighed down as investors cut back on carry trades, in which low-yielding currencies such as the yen are borrowed to fund purchases of higher-yielding ones.