Sterling Takes a Dive against the Dollar amidst Economy Worries

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The pound recently hit a one-month low against the dollar following economy worries in the United Kingdom. The dollar index was surprisingly higher after an unexpected drop in the US unemployment rate which gave investors some confidence with respect to the US economy, thereby leading them to begin to reassess the potential measure and duration of the third round of Quantitative Easing to be carried out by the Federal Reserve.

Recently released data suggest that the UK economy grew only marginally in the third quarter of the year, with major sectors of the economy experiencing slow growth; thus making the prospect of quicker than expected economic recovery even more unlikely.

With the bulk of the BoE’s savings coming from government spending cuts, there would be pressure on the bank to stop or reassess its round of quantitative easing (QE) as early as next month. Experts have warned that more than needed QE will only have a more adverse effect on the British pound as it becomes more available in supply.

Sterling was down 0.6 percent at $1.6045, having fallen to a one-month low of $1.6030;its stop-loss orders were also cited below $1.6020. It has retreated from a one-week high of $1.6218 following a hit on Friday after riskier currencies got a lift from the strong U.S. jobs report that was released.

But even in the US, those gains disappeared as U.S. bond yields rose, with investors reviewing the need for more easing by the Fed in the near term. QE by the Fed has in the past increasedcalls for riskier currencies and assets.

Analysts have called for caution on the part of the BoE, as, according to them, the long term cut proposed for government spending may not be feasible and will in effect cause the round of Quantitative Easing to lead to currency weakness.

As one-third of the gilt market is now being controlledby the country’s central bank, with no clear exit strategy in place, the risks to Sterling are growing with each incremental extension of the Quantitative Easing program.

Data from the Bank of England has revealed that the Sterling’s loss against the dollar has in fact driven the trade weighted index to a two-month low.

Interestingly, the euro also faces near term resistance with a mid-September peak of 81.14 pence;and the situation appears especially worse in Spain. The country is evenexpected to apply for a financial bailout very soon.Such a bailout will likely be one that would allow and empower the European Central Bank to step in and buy the country’s government bonds and effectually lower borrowing costs; a move that would likely boost the euro against the dollar.

After the first round of the bailout fund has been disbursed, the Sterling is also expected to rise against other currencies.

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