Positive economic data revives greenback
THE United States dollar was pushed lower at the beginning of last week, extending the fall started the previous Friday.
Evaporating confidence about near term cuts in German interest rates, and concern that the US economic recovery is stagnating, pushed the unit to a low of 1.566 deutschemarks.
However, an excellent batch of data releases which showed gross domestic product (GDP) grew by 3.8 per cent in fourth quarter, final sales up 4.5 per cent and a 9.1 per cent rise in durable goods orders, dispelled some of the worries over the economy andpropelled the greenback back up to 1.61 deutschemarks.
The medium term outlook for the US dollar is still positive, but for a strong rally to develop President Bill Clinton will have to implement polices favourable to domestic economic growth and German monetary policy will have to be eased.
In Britain, the Bank of England reduced its base rate by one per cent to six per cent, its lowest level in 15 years.
The timing of the cut caught the market unawares and sterling dropped sharply.
Over the course of the week, the pound lost 2.5 per cent against the US dollar and two per cent against the mark to close at US$1.48 and 2.39 deutschemarks.
For longer term investors sterling is beginning to look cheap, especially against the European currencies.
However, speculation on further interest rates cuts will weigh heavily on the currency in the near term.
Britain's easing in monetary policy, and comments by Bundesbank president Mr Helmut Schlesinger that German interest rates would not be lowered until inflation was under control, renewed tension in the European Exchange Rate Mechanism (ERM).
The Irish punt collapsed below its ERM floor of 2.619 marks and the Irish central bank had to raise overnight rates to 100 per cent to restore the currency's value.
As these high interest rates cannot be sustained for long, the most likely outcome is that the punt will devalue.
The Canadian dollar benefited from the volatility in Europe to close at 1.267 to the US dollar, up one per cent from the previous Friday's close.
It is rumoured Prime Minister Brian Mulroney will announce this weekend that he will not stand for office in the general election to be held later this year.
The Canadian dollar would soften on this news. It is unlikely to break out of its current trading range of 1.265-1.275.
Trading action will focus on European cross rates this week, with sterling remaining in the spotlight.
James Mitchell is an economist at BNP International Financial Services (HK)