Trichet set to remain firm

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It is now 2 days of consecutive gains for risky assets as markets continued to bet on the belief that we will see a deal to recapatilise banks in the Eurozone sooner rather than later. This confidence overshadowed more and more evidence that we will see a further leg lower for European economies according to the latest service sector PMIs.

The Eurozone services PMI was revised lower to 48.8 in September versus the preliminary suggestion of 49.1, the lowest level since mid 2009. Big falls were also seen in the Spain and Italy and the German services sector also slipped into contractionary territory. Only Ireland and France were able to post any form of expansion but even so the expectations for the future are heading rapidly lower.

There was good news from the UK however with the services sector unexpectedly rebounding in the month of September with activity expanding. This is of course encouraging and follows the manufacturing number on Monday. What we think this does do is put to bed the belief that we will see further asset purchases from the Bank of England at their meeting today and, as we have been saying, expect them to wait on the first reading of Q3 GDP and the Bank’s own Inflation Report before plunging back into monetary policy manual. Of the 30 or so economists surveyed for the Bank of England meeting about a third are voting for some increase in quantitative easing; we think they will be disappointed but there is a significant risks to the downside to the pound if the MPC throw in a surprise.

The ECB decision is another matter entirely. Once again we believe that we will see rates remain on hold, 80% of economists surveyed agree with us, but they are expected to announce greater support for the banking system through the opening of further credit lines. There have been no firm signals from senior officials of an imminent rate cut, and CPI was verified at 3% on a year on year basis last Friday. This does not rule out a cut in the future as we believe one is necessary to alleviate pressures on the EU consumer but I think this will be in November.

If there is a small cut it could be seen as euro positive in the short term as a signal to markets that the ECB are finally coming round to the market’s belief that inflation can hang for a while but the pressure on consumers and businesses from a credit standpoint has become too much to bear. We’ll know at 12.45pm, ahead of Jean-Claude Trichet’s final press conference as ECB Chair. He hands over to Mario Draghi next week.

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Indicative Rates Sell Buy
GBPEUR 1.1566 1.1594
GBPUSD 1.5419 1.5442
EURUSD 1.3313 1.3335
GBPJPY 118.24 118.53
GBPAUD 1.5929 1.5956
GBPNZD 2.0100 2.0127
GBPCAD 1.6061 1.6090
NZDUSD 0.7661 0.7681
GBPZAR 12.24 12.29
USDZAR 7.9250 7.9700
GBPPLN 5.0588 5.1004
EURJPY 102.08 102.35

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