Foreign Currency Report 22 August 06

USD
The US Federal Reserve has kept its key interest rate on hold at 5.25% for the second successive month, acknowledging a slowdown in economic growth. The Fed ended a two-year cycle of increases in August and the latest move was widely expected as it sizes up the evolving economic situation. The Fed said economic growth was continuing to slow but warned that some inflation risks remained. One member of its committee dissented, voting for a quarter point rate rise. Jeffrey Lacker opposed the decision by the 11-member Federal Open Markets Committee (FOMC) to keep rates on hold. "The moderation in economic growth appears to be continuing, partly reflecting a cooling of the housing market," the Fed said in a statement, which will be closely scrutinised as a signal of its future intentions. The Fed said any further monetary tightening would depend on changes in the outlook for inflation and economic growth. The Fed's decision was seen as a reaction to a more benign economic environment, which has seen inflationary pressures abate somewhat and world oil prices fall sharply in recent weeks. One analyst said the tone of the Fed's statement was more hawkish than had been expected. "It is clear that there are still some very vocal hawks on the FOMC," said Lara Rhame, senior currency strategist at Credit Suisse. Recent economic data have pointed to an easing in the US economy. Output growth dropped to 2.9% in the second quarter from 5.6% in the first three months of the year. Observers have expressed concern that a major slowdown in US growth could hit the global economy next year but US policymakers have insisted that growth will remain sustainable. Although annual inflation is still running at 2.8%, above the Fed's 2% target, consumer prices rose just 0.2% last month..

GBP
In August, total new lending hit a fresh record of £32.7bn, 7% up on July and 21% higher than a year ago. The British Bankers Association (BBA) also reported a record £6.2bn rise in net mortgage lending, which reflects the impact of repayments by borrowers. At the same time, consumers seem to be using credit cards less, with card lending down £399m in August. August was the fourth month in a row that UK consumers had registered a net repayment on their credit cards. "We have not seen contraction of borrowing on cards on this scale before," said David Dooks, director of statistics at the BBA. Wednesday's mortgage announcement seems to underpin recent data from major lenders and from the Bank of England, suggesting that the UK housing market is strong despite a recent rise in interest rates. "In the coming months we expect to see a very similar picture, as demand remains strong and house prices continue to rise," said Michael Coogan of the CML. However, he warned that financial markets are expecting an increase in interest rates sometime between now and the middle of next year, a move that is likely to cool house price growth. "We forecast that house price growth and strength of demand will moderate as consumers anticipate higher rates," Mr Coogan said. According to the Halifax and Nationwide, house prices are now between 7% and 8% higher than a year ago. The national minimum wage has led to 78,000 job losses on the High Street, the British Retail Consortium has said. The group said more retail job losses were likely in the coming year as the UK minimum wage is set to increase from £5.05 to £5.35 an hour next month. In a submission to the Low Pay Commission the BRC urged the government to delay the latest rise. But the claims have sparked a row with unions who say employers are using the threat of job losses to hold back pay. "Retailers tell us they are being expected to find £2.7bn extra for wages over just two years," said BRC director general Kevin Hawkins. He warned that with rental, energy and other charges "shooting up" some employers are looking to cut staffing costs. But the TUC dismissed the claims, arguing that official figures showed a different picture and that 23,000 retail jobs had been created over the past two years.

ZAR
The rand tumbled to a 32-month low to the dollar yesterday as emerging market woes compounded worries around domestic economic fundamentals and political jitters. The local currency hit an intraday trough of R7.60 a dollar, its weakest since January 2004, according to Reuters data, after news that the country continued to nurse a huge current account gap in the second quarter. The rand firmed initially to an intraday peak of R7.355 a dollar on news that the shortfall on South Africa's broadest measure of trade had narrowed to 6.1 percent of gross domestic product from 6.4 percent in the previous quarter. But those gains were soon reversed as investors digested news that the deficit remained near a 24-year peak. "The rand seems to be exposed," said Jene Frieda, the head of emerging market research at the Royal Bank of Scotland. If the rand stayed a more than R7.55 a dollar it could easily slide to R8 a dollar in coming weeks.

Euro
The Euro has finally broken higher after remaining trapped in a relatively tight 1.2650 to 1.2750 trading range for the past two weeks. The current account data was weaker than expected, but the rally in the Euro was primarily due to dollar weakness rather than Euro strength since the single currency lost value against the Japanese Yen, British pound and the Canadian dollar. This is not surprising since it was only a few days ago that the German ZEW survey fell to the lowest level in eight years. However even though the report came in weak, it will not prevent the European Central Bank from raising interest rates again in October. French household consumption of manufactured goods posted a month-on-month decline of 0.9 pct in July after the 0.9 pct rise seen in June, according to figures from the Insee statistics office. Economists polled by AFX News had been expecting a consensus decline of just 0.5 pct in July. The June reading was revised down sharply from the initial 1.7 pct rise reported by Insee two months ago. But in August, consumer spending rebounded sharply, posting a month-on-month rise of 3.3 pct, well ahead of the flat reading expected by economists. Year-on-year, consumption was up 6.4 pct in August, against expectations of a 3.5 pct rise. Insee said spending growth was strongest on household equipment, up 5.4 pct in August from July, when spending in this sector fell 1.7 pct, while clothing consumption was also buoyant with a 5.0 pct rise after a 3.0 pct gain in July.