Sterling came under selling pressure last week after GDP for the last quarter of 2010 unexpectedly fell. While the British Office of National Statistics has been quick to emphasise that the 0.5% decline in the GDP data was weather-related, this still leaves data showing zero growth in the fourth quarter of last year. This leaves Mervyn King at the Bank of England in a difficult position; a combination of higher inflation and weaker growth over the coming months is likely to be a major headwind. The euro thus gained against the pound, rising to a high of 86.7p.
We suggested selling euro-sterling last Sunday at 85.5p. However, given events last week we will reassess our call if the currency closes above 87p. A close above that level targets a move towards last October's resistance around 89p.
We mentioned the diverging central bank policies of the US and Europe last Sunday, and this was reinforced last week with the Fed noting that "measures of underlying inflation have been trending downward" while ECB member Lorenzo Bini Smaghi said policy makers could no longer afford to ignore imported inflation. This underpinned the performance of the euro versus the dollar, which made a new high for the year to date of $1.376. Momentum favours a move to $1.40 but above here eurozone periphery worries are completely discounted.