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FX Day Trading - 19 October 2010
QE looms over sterling ahead of spending review
Australian Dollar lower after RBA minutes
Central-banker fest today
As a preamble to the chancellor's cost-cutting spending review tomorrow, the Secretary of State for Defence will today present his plans for the future of Britain's armed forces. Afterwards he will invite their remaining members round for a cup of tea at his home.
It was not the threatened removal of its air cover that hurt sterling on Monday, more the fear of what George Osborne will say about broader government spending tomorrow. Although there is no calculation that relates 'x' spending cuts to 'y' quantitative easing (QE), investors assume that the deeper the cuts and the more they eat into economic growth, the more QE the Bank will decide to provide as a countermeasure. That will mean a lower pound.
Investors dislike QE because it dilutes the value of a currency. To make the point with a ludicrous example, imagine a central bank doubles the amount of money in circulation. There is no change to the amount of goods and services available but there is twice as much money around. What happens to prices? They double. And guess what happens to the exchange rate; it halves.
That, on a smaller scale, is the effect of the first phase of QE when the Bank creates money to buy government bonds. The theory is, of course, that when the economy is once again on a roll, and no longer needs the stimulus of QE, the Bank sells off the bonds it had bought.
In doing so it withdraws from circulation the money it created, depressing prices and lifting the value of the reduced amount of currency that remains in circulation. That second phase could be called quantitative tightening (QT). (But it isn't.)
The concern now is that QT is not even on the radar at the moment. What is on the radar, and it looms large, is a second round of QE (QE2). It is that image that was making life difficult for sterling even before Monday. What will weigh on it at least until tomorrow's spending review has been revealed and the Bank of England has published the minutes of this month's Monetary Policy Committee (MPC) meeting.
Having said all that, the pound did not fare too horribly yesterday. FX spread betting traders saw it move lower against almost everything and fractionally higher against the yen. None of the moves were large: sterling's half-cent decline against the US dollar was typical.
Little effect was to be seen from the economic statistics. Stronger than expected inward capital flows offset weaker figures for US industrial production and capacity utilisation. The NAHB housing market index went up from 13 to 16. That is still a very low reading but the 23% improvement was decent enough.
The minutes of the Reserve Bank of Australia's latest policy meeting caused an initial upward spike for the Australian dollar, followed by a more protracted decline. The minutes revealed that the surprise decision to leave the policy interest rate unchanged at 4.5% had been "finely balanced" and that rates would have to rise "at some point".
Evidently, investors had been hoping for something more punchy. What they got was a restatement of things they had heard before. It was not enough to motivate another advance on parity with the US dollar.
ZEW's surveys of economic sentiment in Germany will be the most important figure this morning; housing starts and building permits are the only ecostats on offer from the United States. The Bank of Canada is due to announce its interest rate decision at two o'clock; analysts expect no change to the current 1%.
The data agenda might not look too compelling but it could be an epic day for central-banker speeches. The Federal Reserve's Ben Bernanke and Janet Yellen, the European Central Bank's Jean-Claude Trichet and Axel Weber, the Bank of England's Mervyn King and the Reserve Bank of New Zealand's Alan Bollard will all be having their say.
That's four governors and two deputies and they are not all sharing the same podium. It would be a surprise if nothing worth spread betting on were to emerge from their pontifications.
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'FX Day Trading 19 Oct 2010', Article by Moneycorp, last update: 19-Oct-10
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