Fed more optimistic

In their post meeting statement, the Federal Reserve continued to cite high unemployment, tight credit and reduced household wealth as the main economic headwinds in the US economy even though inflationary pressures remain contained. The Fed kept interest rates on hold, and detailed their plans for further QE. The committee also suggested the size and scope of further QE will be reviewed as the situation develops and left the door open for increases in the amount of securities the Fed will purchase if needed. The slight change in tone, from concerned to mildly optimistic, mirrored the bond markets recent volt face. Bond yields have begun to rise towards more normalised levels, signalling renewed belief in a sustained economic recovery and underpinning the recent Dollar strength. US retail sales came in above forecast for a fifth month in a row, which although coming from a low base, is at least moving in the right direction and also lends support to the USD.

UK unemployment figures have just been released, showing the number of people out of work at its highest level since March this year and tipping Sterling into a broad sell off. Unlike America, yesterday’s inflation figures, with prices rising at 3.3%, were once again well above the Bank of England’s target of 2% and continue to cause the bank a real headache. With the VAT increase due in January and the full effects of the Pounds decline on import prices yet to fully work through the system, the Bank is predicting above target inflation in the first quarter of 2011 and into the second half of the year.

Both Spain and Belgium have been placed on review for a possible downgrade by ratings agencies – seemingly bringing to an end the recent Euro rally and pushing the single currency back onto its downward trend going into Christmas. Belgium has had no Government for over six months, and S&P thinks this will hinder any difficult decisions over reducing debt levels of almost 100% of GDP. Spain managed to place bonds successfully, but at an increased interest rate and the scale of the funding that needs to be rolled over in 2011 means we may see a Spanish downgrade within 6 months.