BoE and ECB keep interest rates and QE on hold for now

GBP

The Bank of England’s rate setting committee yesterday announced its decision to keep interest rates on hold at 0.5% and reject calls to implement more asset purchasing. This means the MPC has kept the interest rate at a historic low for four years.

Early in the day’s trading, Sterling was firmly on the back foot as markets priced in a potential increase in QE, presumably prompted by the revelation that at the last meeting three MPC members (including Mervyn King) voted for an increase of £25Bn to £400Bn. As soon as the decision was announced however, Sterling instantly increased in value against most majors. However, the decision was likely to be a close call, and the release of the minutes is likely to indicate a split decision. The combination of negative fundamental economic data releases coupled with the MPC’s recent veer towards a more dovish stance; along with the fact that only a modest increase in economic growth is being forecasted moving forward, will all increase the possibility of further QE in the near future.

The only discernible data released today is the Consumer Inflation Expectations survey, which is relevant as expectations of future inflation can easily manifest into real inflation as a self-fulfilling prophecy.

EUR

The euro advanced yesterday against most majors following another upbeat press conference by Mario Draghi in which it was announced that the ECB is to hold its interest rates steady. In the subsequent public engagement, Draghi admitted that the decision was not unanimous, however he was once again optimistic regarding eurozone economic recovery and completely played down negative effects stemming from the Italian election results.

In an usually upbeat manner Draghi presented the ECB's revised growth and inflationary forecasts. The GDP of the Eurozone is now expected to fall by between -0.1% and -0.9% in 2013 and remain steady or even grow up to 2% in 2014. In terms of inflation, projections are pointing to an increase of between 1.2% and 2% this in 2013 and 0.6% to 2.0% in 2014.

Draghi also stated that a gradual recovery will be ubiquitous in the Eurozone, beginning in the third quarter of 2013. The Central Bank head stressed that the implementation of structural reforms by sovereign governments would be a vital element in tackling the debt crisis and that strategies to combat youth unemployment should be a priority.

Another positive comment included the fact that banks have already repaid 40% of the net liquidity injected via the LTROs. Despite these positive projections, it has to be said that the Eurozone is still currently experiencing recession and “necessary balance sheet adjustments in the public and private sectors will continue to weigh on economic activity.” The ECB's positive forecasts are heavily based on a presupposed strong boost in global demand in the latter part of the year, which may not materialise.

The only data release of relevance from the eurozone today is the German Industrial Production m/m, which is a leading indicator of economic health.

USD

After weeks of gains, the USD finally lost a bit of strength across the majority of it trading counterparts. As well as the decisions from Europe and the UK that weighed heavily on the dollar, the US had a raft of data out of its own. Trade balance figures widened much more than expected, the actual figure was -44.5B when expected at -42.6B. This data shows more goods were imported than exported. All goods and services, excluding farm related activities, also declined worse than expected quarter on quarter down to -1.9% when predicted at -1.6%. This data coupled with analyst and large traders accepting that there won’t be an interest rate cut for Europe anytime soon watched the USD fall by 1% against the euro. This would also indicate that whilst the USD is still in a comparatively strong position against many currencies, large investors are starting to look at riskier assets again and away from the safe haven USD.

It wasn’t just bad news for the US on Thursday, the labour market showed signs of improving as much less people filed for unemployment benefits than seen in the previous months, the figure came out at 340k, a 7k drop from the month before.

Late in the US session we saw the release of the yearly stress tests, designed to measure the ability of America’s largest banks to withstand massive unemployment, house price, and a stock market crashes. Surprisingly for many, some of the larger, typically better performing banks such as Morgan Stanley, Goldman Sachs, JP Morgan Chase and Bank of America filled the positions of four of the bottom five positions of the 18 banks which were tested. Fortunately for the US dollar, there is still a huge relationship with risk, meaning that even when potentially disastrous data is released, the greenback can see strength.

Today there are two potentially market moving pieces of data for the US and both are out at 13:30 UK time. There is Non-Farm Payrolls that is expected to increase slightly and the US Unemployment Rate that is not expected to have changed, as always any deviation from what is expected can cause the most volatility.

In Other News

The price of the Australian Dollar managed to soar yesterday despite data released indicating that the trade balance deficit widened, which surprised analysts who were expecting a decline. In spite of this the AUD managed to break a 52-week high against the Pound.