The pound has seen a challenging week as data in the early part of the week was not all that forth coming and those indicators that were released were not particularly positive. Rightmove house prices index fell to 3.75 from 5% in June. Analysts were focused on the European banking sector stress tests and corporate earnings for most of the week. The first trigger for weakness in sterling came from the release of U.K. public sector net borrowing data. Net Borrowing came out at £14.5bln; markets had expected debt levels to improve to £13.2bln from the previous £16bln. Disappointment at failing to meet forecast and revisions of the previous figure to £17bln weighed heavily on the pound. Sterling losses against the euro were capped and reversed as trader took profits in EUR/USD positions after a week of gains by the euro.

Sterling saw a second day of losses on Wednesday after the release of more dovish than expected minutes from the Bank of England. The MPC voted 7-1 to keep interest rates on hold and unanimously to keep the £200bln asset purchase scheme unchanged .  MPC member Andrew Sentance voted for a 25 basis point rate hike. The decision had been expected by the markets but what disappointed analysts was the lowering of growth expectations. According to the minutes growth in the U.K. was likely to weaken slightly due to fiscal tightening, in addition to this future growth prospects had already weakened since the last BoE meeting. Inflation expectations added further uncertainty as price pressures are expected to remain high for the remainder of 2010 but move back to target in the medium term. Confusion and uncertainty rained as the minutes suggested a need for higher rates to combat inflation but that the risks to growth were significant enough to prevent any such action. Some weakness also came from the release of UK retail sales figures, losses were short-lived though as retail sales figures were revised to show a pickup in sales. June sales rose to 1.0% from the previous 0.7% due in part to the impact of the World Cup.

The main event on the U.K. data calendar was the release of U.K. Q2 GDP figures, growth in the second quarter of 2010 rose to 1.1%, analysts had expected an increase to 0.6% from the Q1 0.3% release. The figures lifted the pound across the board and erased earlier losses but analysts were somewhat sceptical about the figures due to the misgivings of the Office of National Statistics regarding the final Q1 growth numbers released last week.

The pending release of the E.U. banking stress tests and speculation over the performance of major E.U. banks kept the single currency’s rally strong despite various negative market factors this week. Hungary, while not yet using the Euro, failed to agree a fiscal strategy with the IMF and E.U. but more significant was the downgrade of Ireland’s debt rating.  Moody’s downgraded Ireland’s debt rating to Aa2 from Aa1 citing concerns over the country’s debt-to-GDP ratio and the prospects of a future rise in the country’s debt position. Assurance for markets came from the successful bond auction by Ireland and recent actions taken by various E.U. governments to cut their debt as well as the ongoing support from the European Central Bank to maintain liquidity levels in the market and support the banking sector.

The boost in confidence that was driven by the expectation of a strong performance by European banks kept the euro rally intact throughout the week although profit-taking on EUR/USD pulled the single currency lower periodically. German PMI services and manufacturing data gave the euro a final boost to the end of the week but with the stress test results imminent market participants scaled back long euro positions for the close of markets.

The dollar traded largely based on the release of corporate earnings and market expectation over the European stress test. Corporate earnings were mixed with Goldman Sachs’ quarterly earning falling short of expectations although profits did beat the markets views, Merrill Lynch and Wells Fargo both released strong earnings results. Economic data for the U.S. came out on average weaker than what was forecast and strengthened concerns over a slowdown in economic activity for the United States. Consumer confidence, housing data and employment number all came out below forecast and in some instances lower than previous figures.

Fed chairman Ben Bernanke testified before congress and kept investors cautious on the dollar. The dovish testimony by the Fed Chairman created concern as Bernanke acknowledged the U.S. economic outlook remained “unusually uncertain” and that the central bank is ready to take steps to keep the recovery alive. He went on to say that the Fed was ready to provide additional stimulus if needed ad would try to push borrowing costs even lower if the jobs market continues to languish. On interest rates Bernanke said record low levels were still needed to bolster the economy and repeated the central banks pledge the keep rates low for an “extended period”.

Despite large fluctuations the dollar remained fairly range bound versus the euro while the levels on the pound reached a 2 month low for the dollar.

Next Week

After the surprise increase in U.K. Q2 GDP the pound is expected to remain well supported as the recent fear selling of sterling begins to be retraced. Higher confidence may very well be maintained but will depend greatly on the results of the European stress tests, positive results are expected by market participants. There is also not much in the way of U.K. data to give the pound direction throughout the week and movements in the wider market are likely to dictate the  direction of sterling trade.

The Federal Reserve Bank Chairman Ben Bernanke commented last week that should the labour sector languish further the central bank would take steps to support the U.S. economy, suggesting a further liquidity injection into the economy. The more dovish assessment by Chairman Bernanke will mean the Fed’s beige book and weekly jobless numbers are going to be important for dollar currency movements. The main data event for the week will be the release of USD Q2 GDP figures which again will be analysed in context of the Fed’s economic assessments.

Economic Data Releases