BLBG: Pound Drops Against Euro on View BOE to Cut Rates More Than ECB
The pound fell against the euro for a seventh day, edging closer to parity with the common currency, on expectations the Bank of England will cut interest rates faster than the European Central Bank.
The pound also slipped versus the Swiss franc and Norwegian krone. The U.K. central bank lowered its main rate 3.5 percentage points this year to minimize the fallout from the global financial crisis. The ECB will end 2008 with its key rate 150 basis points lower than at the start, while policy makers have indicated they are reluctant to lower the rate further.
“Sterling is out of favor,” said Neil Mellor, a currency strategist in London at Bank of New York Mellon Corp., a custodian of $23 trillion of financial assets. “It’s declining on the basis of interest-rate differentials. Everyone expects rates to head towards zero.”
The pound weakened 1.1 percent to 97.79 pence per euro as of 11:58 a.m. in London, extending its decline this year to 25 percent, the most since the creation of the European currency in 1999. It traded 1.6 percent lower versus the Norwegian krone and 0.3 percent weaker against the Swiss franc. It rose 0.75 percent to $1.4500.
The British economy is in its first recession in 17 years. The government has nationalized Northern Rock Plc and Bradford & Bingley Plc and bought stakes in HBOS Plc, Lloyds TSB Group Plc and Royal Bank of Scotland to bolster the financial system.
Currency Concern
Bank of England policy makers voted unanimously this month to cut the benchmark interest rate to 2 percent and refrained from a bigger reduction on concern it may prompt an “excessive” drop in the pound, according to the minutes of the Dec. 4 decision.
The U.K.’s benchmark rate may be reduced to 0.5 percent, “with zero rates being very possible,” Howard Archer, chief U.K. and European Economist IHS Global Insight, wrote in a note today. “It is also very possible that the Bank of England will engage in some forms of quantitative easing in 2009.”
So-called quantitative easing can weaken a currency by increasing its supply in the financial system. It may take the form of purchasing bad debt from companies and taking almost anything for collateral, Bank of New York Mellon’s Mellor said.
Short sterling futures contracts maturing in March have declined by 61 basis points since the last Bank of England decision on Dec. 4, indicating a further cut in rates.
Parity ‘Inevitable’
Parity between the euro and the pound is “inevitable,” Mellor said. “Short-sterling markets are factoring in around a 50-basis-point move before March, so a continued ratcheting down of rate expectations should undermine sterling further.”
The pound may be about to rebound against the euro, according to its relative strength index. The measure rose to 81.5 today from 79.6 yesterday. The last time it was over 80 on Dec. 18, the pound jumped 2 percent against the euro the following day, snapping a three-day decline.
U.K. government bonds rose, pushing the yield on the two- year gilt down four basis points to 1.12 percent. The 4.75 percent security due June 2010 gained 0.05, or 0.5 pounds per 1,000-pound face amount, to 105.15. The 10-year gilt yield was little changed at 3.10 percent. Yields move inversely to bond prices.
