Sterling Takes a Pounding

Posted December 09, 2008

The UK sterling is weakening due to bad news in the industrial output reports. The US dollar has been losing its appeal as a safe haven as investors begin to show renewed confidence in equity markets.

 

At the risk of using a pun, the sterling is taking a pounding right now and is the biggest currency news of the moment.  One investor called the sterling the currency “whipping boy” of benchmark currencies as it dropped against the US dollar due to a number of reasons.

The first financial information to note is the industrial output report issued by the UK government.  Output fell by 1.8% for the three months of August, September, and October 2008 when compared to the 3 preceding months.  In a single month, October, industrial output registered a 1.7% drop compared to September.  This does not bode well for the GDP in the fourth quarter of 2008.

Other bad news for the United Kingdom which has led to a weakening of the pound includes a widening trade deficit and house sales declines.  In fact house sales declined to levels not seen since 1978.  This news was followed by the news that retail sales fell for 2 consecutive months.  When you add all of these declines together, it means the UK recession is deepening rapidly leading to an anticipated steady decline in the sterling against the US dollar.

The UK pound dropped against both the US dollar and the euro.  The pound reached $1.4679 in US dollars at one point during the day.  It weakened to 87.39 pence against the euro. 

In the US, the Dow Jones Industrial Average rose 298.76 to close at 8,934.18 as of Monday 8/December/2008.  The rise in the stock market, which indicates investor confidence is returning, was a response to two things.  First, the US Congress is close to agreeing to a bailout plan for the big 3 automakers, General Motors, Ford and Chrysler.  Second, President-elect Barack Obama has promised to improve the economy through government spending on infrastructures.  The bailout of General Motors is good for some European economies also, because GM employs workers around the world.

The currency rates change up and down based on economic news of the day and economic predictions.  For example, some predictions say the Canadian dollar ($.7983) will fall against the US dollar as the country’s recession continues to deepen.  Yet the Canadian dollar strengthened against the US currency yesterday, 8/December/2008, on the news that Obama would be reviving the US economy. 

The UK sterling is not the only currency taking a pounding.  The Brazilian real ($.3978) continues to fall as it rides a 4 month slide downward.  The currency weakening reflects a deteriorating economy and increasing trade deficit.  There is speculation the central bank will cut interest rates this week which is being factored into the real pricing.

The Russian ruble ($.0358) has been slumping against the US dollar as foreign investors stay busy withdrawing their money from the country.  Since August, investors have pulled out over $190 billion.   The Russian economy, like almost all other economies, has been contracting and economic woes are expected to continue into 2009.

The big question in the markets is how to measure stability.  One of the impacts of the global crisis has been recognition that many financial models are literally broken.  For example, the drop in interest rates is no longer unfreezing consumer spending or bank credit. When models stop working, new ones must be developed.  But at this point, no one really knows how to begin devising these new financial models that will account for the factors leading to this crisis. 

In the currency world, fortunately some facts hold true. For example, interest rates do still predictably impact currency rates.  As the global recession unfolds, there will be a lot of discussion and theories put forward which attempt to develop new economic models.  In the meantime, currency rates will continue to respond with generous swings up and down in confused responses to daily economic data.

 

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