FYI | Dec 05 2008
By Chris Shaw
Cutting official interest rates has been the dominant policy move this week, with both the Reserve Banks of Australia and New Zealand cutting rates heavily and the Bank of England (BoE) and the European Central Bank (ECB) following suit overnight, the former lowering interest rates by 1.0% and the latter by 0.75%.
According to Danske Bank the moves show a willingness on the part of authorities to act on what are clearly very difficult economic conditions. Together with recently announced rescue packages these cuts should eventually have the effect of allowing for a recovery in risk sentiment. Danske Bank expects this would be a positive for currencies such as the British pound against the euro.
But in the shorter-term there is no change to the bank’s view the pound and the euro will continue to come under pressure, particularly against the Japanese yen, US dollar and Swiss franc.
It takes this view largely because the central banks behind the currencies in the first group are somewhat behind the curve in terms of easing monetary policy to deal with the global economic crisis, particularly in comparison to the central banks behind the currencies in the second group.
Given this pattern is expected to continue the bank sees little to support the euro, though it notes the downside potential against the US dollar in particular may not now be as pronounced as previously thought given a weakening in the link between relative interest rates and foreign exchange movements of late.
The bank continues to view the British pound as undervalued relative to the euro in the longer-term, though it takes the view in the short-term this value may not be realised as the pound will suffer from what remain historically weak activity data for the UK economy and because the BOE cut rates by more than the ECB overnight.