Pound Weakens to 15-Month Low Versus Euro as BOE Rate Bets Fade

Euro Rallies
The euro rose for the first time in four weeks against the dollar as optimism Greece will solve its sovereign-debt problems. Photographer: Simon Dawson/Bloomberg

The pound slid to a more than 15-month low against the euro on bets a faltering economy will curb the Bank of England’s scope to raise interest rates, while the European Central Bank lifts borrowing costs to tame inflation.

Sterling weakened versus all but one of its 16 major peers tracked by Bloomberg, depreciating the most versus South Korea’s won. U.K. consumer confidence fell more than economists forecast this month and mortgage demand is predicted to drop in the third quarter, reports today showed. Barclays Capital pushed back its forecast for policy makers to increase rates.

“The shift in monetary-policy stance away from inflation hawkishness to a more growth-supportive position is the biggest reason why the pound is weaker,” said Neil Jones, head of European hedge-fund sales at Mizuho Corporate Bank Ltd. in London. “The growth picture is not what the market is looking for, so we are returning to the possibility of interest rates staying lower for longer. That keeps sterling a firm sell.”

Sterling weakened for a fourth day against the euro, depreciating as much as 0.9 percent to 90.69 pence, the least since March 16, 2010. The U.K. currency traded at 90.39 pence as of 4:42 p.m. in London. It was little changed at $1.6058, after earlier reaching $1.5973, the sixth successive day it has traded weaker than $1.60.

Economic Decline

The pound has slumped this year against 12 of 16 major currencies tracked by Bloomberg as Conservative Prime Minister David Cameron’s austerity measures to shrink the budget deficit crimp growth and inflation squeezes incomes at the fastest pace since the 1970s. Efforts to eliminate the bulk of the fiscal shortfall by 2015 involve the deepest spending cuts since World War II and more than 300,000 state-employee job losses.

Sputtering economic growth has prompted traders to reduce bets on higher rates, with the implied yield on short-sterling futures expiring in March falling two basis points today to 1.05 percent, down from a high of 2.08 percent in February.

Barclays Capital now sees the Bank of England benchmark rate on hold until May 2012. The bank, which previously forecast a rate increase in November, said in an e-mailed note today that the change reflects weaker than previously expected economic growth and recent comments from U.K. policy makers.

Bank of England policy maker Adam Posen said on June 27 that a call by the Bank for International Settlements for higher rates worldwide to curb inflation was “nonsense.” Governor Mervyn King said this month that the euro-area debt crisis and the threat of a default in Greece pose the biggest risk to the stability of the U.K. financial system.

Rate Bets

Consumer confidence fell to minus 25 from minus 21 last month, GfK NOP said today in a report. Economists predicted a reading of minus 24, according to a median estimate in a Bloomberg survey.

Investors are betting the central bank will raise borrowing costs next May, according to forward contracts on the sterling overnight interbank average, data from Tullett Prebon Plc show. As recently as February, traders were betting on a rate increase in May of this year, the data showed.

Gilts fell for a fourth day, lifting 10-year yields five basis points to 3.38 percent. The two-year note yield increased one basis point to 0.82 percent.

U.K. government bonds have returned 2 percent this year, compared with a 0.1 percent increase for German debt and a 2.6 percent return for U.S. Treasuries, according to indexes compiled by Bloomberg and the European Federation of Financial Analyst Societies. Greek bonds lost 16 percent amid concern the nation would default, the indexes show.

Bad Loans

U.K. banks expect default rates to increase in the third quarter after they were “broadly unchanged” in the second quarter, the Bank of England said in its Credit Conditions Survey published in London today.

“The credit survey suggests that rates aren’t going to go up any time soon,” said Chris Huddleston, a trader at Investec Bank Plc in London. “That’s leaning on the pound a little.”

The central bank will probably leave the benchmark interest rate on hold at a record low of 0.5 percent until after Governor King retires in 2013 as debt deleveraging curbs growth, Gerard Lyons, chief economist at Standard Chartered Plc, said in a speech yesterday at a conference hosted by the British Bankers’ Association in London.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE