Foreign Currency Report 03 April 2007

An interesting start to the week with the UK Interest Rate decision considered the main focal point in the currency markets. Will or won't they seems to be on everyone's lips

GBP
Homeowners are being braced for a possible rise in borrowing costs when the Bank of England announces its latest interest rates decision on Thursday. Opinion is split over the likely outcome of the Monetary Policy Committee's announcement, following a mixed set of economic data in recent weeks. However, economists agree the cost of borrowing will have to rise from 5.25% to 5.5% at some stage as the Bank acts to keep inflation on track for 2%. It would represent the fourth increase since August. Sterling hit a two-month high against the dollar at $1.98 on Monday due to a growing view that the Bank of England would act sooner rather than later. Money markets were pricing in a 40% chance of a hike on Thursday. Momentum seemed to increase after a 'shadow' monetary policy committee a selection of independent economists who say what they would do with policy each month voted 8-1 in favour of a rate hike this month. The committee is funded by the Institute of Economic Affairs, a think-tank. Strong mortgage lending figures in February and an unexpected leap in retail sales in March may influence the decision of Bank policymakers. Consumers seemed unstoppable last month as the CBI reported its best retail sales figures for two years, despite the rate rises. However, a pick-up in mortgage lending in February may be partially offset by a decline in annual house price inflation in March to 9.3%, down from 10% in February. Philip Shaw, chief economist at Investec Securities, said: 'We continue to see rates on hold at 5.25% this time and we are still forecasting a 25 basis point increase to 5.5% in May. Our central view remains that rates will come down gently in 2008.' Minutes from March's MPC meeting give further weight to this prediction after members voted 8-1 to keep rates on hold, with the dissenting David Blanchflower voting for a cut. If you need to buy currency today, be warned get it done before the Interest Rate decision at midday. If the MPC decide to keep Interest Rates on hold here in the UK, we could see Sterling unwind rapidly!

ZAR
Mounting price pressures are pointing to the need for a further hike in interest rates. However, economists are divided on whether Reserve Bank governor Tito Mboweni will make the move when the monetary policy committee meets next Wednesday because of uncertainty about where the country is in the economic cycle. "There are lots of good reasons the MPC should raise rates," said Dennis Dykes, Nedbank group chief economist. "The oil price is up, the rand is vulnerable and the balance of payments looks overstretched despite the latest trade number. "But it takes 12 to 18 months before the impact of a rate rise feeds through to the economy. And I sense there are fears that another interest rate increase might choke off credit for productive investment," said Dykes. The series of rate rises started in June last year, so it will be a while before it is possible to measure the impact. In February, the MPC decided to leave the official repo rate unchanged at 9 percent after the 200 basis points increase last year. While Dykes described the rates decision as "on a knife edge", Tony Twine, an economist at Econometrix, believed that recent developments had increased the chances of another rate rise. He said the bank's inflation model was likely to show CPIX (the consumer price index minus mortgage costs) breaking through the top of the Reserve Bank's 3 percent to 6 percent inflation target range in April and May, and possibly in June. One factor is the oil price. "The price of the benchmark Brent blend crude surged to a six-month high of $70 over the weekend before dropping back to just below $68 on Monday," Dykes said. Food prices are also expected to put upward pressure on inflation.