Currency watch: Flickers of optimism swiftly extinguished

High inflation figures sent sterling tumbling on Tuesday, ahead of the publication of the minutes from the Bank of England’s latest meeting which were released the following day.

Inflation was expected to surge towards the 5% mark, but the move beyond, to 5.2%, was not.

The news has been full of articles about price levels of late; from bill increases by utility companies, to ‘price wars’ between supermarkets. However, I think we are approaching a near-term high in inflation, as the increase of VAT falls out of the figures in January 2012.

Sterling’s decline versus its major trading partner (the EU) will continue to help importers, and commodity prices are slipping from their highs as a result.

Consequently the squeeze on incomes from price rises will start to diminish as we move into 2012, although a subsequent bounce in consumer confidence will be kept on ice owing to a paltry 1.8% increase in wage prices.

The govenor of the Bank of England, Mervyn King, warned on Tuesday night that the UK economy is “not on track”, in a speech in Liverpool.

The blame for this lay overseas. “We were on track,” he said, “but problems in the euro area and the marked slowing in the world economy has lengthened the period over which a return to normality is likely”.

It was an ominous statement, dampening any feelings of positivity in the room in one short sentence. We will get a closer look at the Bank’s estimates for growth and inflation in the Quarterly Inflation Report, due in early November.

With focus back on the European debt crisis, an article in The Guardian newspaper then caused optimists to get very excited. According to the report, Germany and France had supposedly reached agreement that the European Financial Stability Facility would offer insurance to both private and public bondholders. If confirmed, this would give the fund a €2 trillion lending capacity versus the €440bn it is currently capable of.

There were also encouraging reports that we were moving closer to agreeing on larger reductions on privately held Greek debt, which all added up to present a very promising picture indeed.

That is to say it would have done, if any of these reports had been verified. Subsequent comments from EU officials, that no deal has yet been reached, soon poured water on that particular fire of optimism.

Jeremy Cook is chief economist at World First foreign exchange