Foreign Currency
Sterling is around 1½% lower against the US dollar. The UK currency is around ¾% lower against the euro. Both the MPC and the European Central Bank (ECB) are expected to announce significant benchmark interest rate reductions today. The scale of the reductions will have a significant bearing on sterling’s exchange rate against the dollar and euro. Tomorrow, foreign exchange market focus will turn to the dollar ahead of the key US employment report. The data will have a major bearing on international business sentiment given the strong correlation between the US unemployment rate and consumer sentiment and hence the future path of US consumption of both domestically produced and imported goods.
Interest Rates
Period rates up to 5 years are fractionally lower in anticipation of interest rate reductions. 10 year plus rates are, on average, 0.10% lower reflecting the uncertain tone in equity markets. There may well be a further downturn in period rates in response to central bank interest rate decisions and Friday’s US Employment Report. The scale of the UK base rate reduction this morning may well depend on the size of the ECB repo rate reduction. From a domestic perspective, there is a strong case for a 1% reduction in base rate to 2%. Recent UK survey data has been much weaker than anticipated. Yesterday’s PMI service sector survey index fell by over 2 points to a record low of 40.1. Whilst the weakest elements related to current business activity, the business expectations component fell to just below 50, indicating that UK economic growth may well remain in negative territory until second half 2009. The private service sector accounts for around 50% of UK gross domestic product. Another factor which justifies a significant base rate reduction is the high differential between bank rate and money market rates. Yesterday, 3 month LIBOR fell by 0.05% to 3.79125% - an exceptionally high level given the prospect of a significant base rate cut today, and indicative of the continuing shortage of liquidity in international money markets.
Equities
World equities lost ground in Asia but may well recover around midday in response to central bank rate reductions. Thereafter, the tone may well be set by Friday’s US employment data, which is expected to show a sharp reduction of 325,000 in non farm payroll and a rise in the US unemployment rate to 6.8%.
Oil and other commodities
Brent crude (1 month forward) has fallen below $45 / barrel on expectations that Friday’s US data will show further evidence of the downturn in the US economy.