Foreign Currency Report 08 December 06

Sterling fell down to a one-week low against the dollar in early trade this morning. This is largely attributable to recent data not coming in strong enough to convince markets that the Bank of England will raise interest rates in February.

The BoE held rates at 5 percent on Thursday, as expected. The future outlook for policy is less clear though, with signs of continued strength in the UK housing market counterbalanced by news of an unexpected fall in industrial output in October. It seems all the hype of a housing market in peril seems misplaced, for the moment at least.

A Reuters survey revealed that most economists thought British
borrowing costs had probably peaked and could stay on hold through the rest of next year, but a further rate rise could not be ruled out in early 2007.

For the BoE, chances of more rate hikes could increase if inflation is high. A survey from the Confederation of British Industry released on Friday showed that Britain's consumer services firms plan to raise prices at their fastest rate in eight years over the next three months thanks to higher demand. Official consumer prices data for November will be published on Tuesday.

The European Central Bank raised interest rates to 3.5 percent on Thursday and most expect it to tighten again in the first quarter of next year. ECB commentary following the widely expected 25 basis point rate hike provided few clues as to the future of European interest rates. Central bank Governor Trichet was slightly hawkish in highlighting that inflation risks remained elevated and that monetary policy remains 'accommodative', but he dropped the key 'strong vigilance' phrase that many Euro bulls had hoped for. The result was to leave markets guessing as to whether the bank would raise rates in the short term, with interest rate futures and Euro currency pairs fluctuating wildly his every word.

The main news to watch out for today is non farm payroll data from the US, the expectation is 115k from a previous 92k. This prediction seems to have been priced into the market and certainly would explain the strong dollar we have seen of late. Especially considering the levels the dollar is holding despite yesterday's ECB hike. Non farm data is due at 1330hrs.