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The British Pound has remained under pressure overnight falling back below 1.600 despite a rise in factory gate prices and a narrowing trade deficit.

Talking Points
• Japanese Yen: Lower On Dollar Strength
• Pound: Factory Gate Prices Rise For Seventh Month
• Euro: German Exports Unexpectedly Fall
• US Dollar: Bernanke Talks Rate Hike

British Pound Weakened On Dollar Strength Despite Increase in Factory Gate Prices

The British Pound has remained under pressure overnight falling back below 1.600 despite a rise in factory gate prices and a narrowing trade deficit. Broad based dollar strength started the bearish momentum but we have seen sterling regain its footing against the greenback like other currencies, aided by a 0.4% increase in producer prices on an annualized basis. September saw costs passed on to consumers rise for a seventh straight month by 0.5% which led to the first yearly gain in five months. Meanwhile, declining imports outpaced weakness in exports leading to the narrowest trade deficit since 2006.

Concerns are growing that the quantitative efforts of the BoE aren't having the intended impact as credit conditions for consumers and small businesses remain tight. The central bank refrained from adding to their efforts at yesterday's policy meeting as they will wait for next month when they will have the quarterly inflation report in hand and will be able to make a more informed decision. November will also bring an end to the current asset purchase program allowing policy makers to better assess its effectiveness. Former MPC member David Blanchflower called for more easing from the central bank as the ultra-dove see continues downside risks to growth.

The Euro also lost ground in early trading against the dollar but has started to find a bid tone despite an unexpected drop in German exports. Demand from abroad fell for the first time in four months by 1.8% which combined with a 1.1% rise in Imports led to the trade balance surplus narrowing to 8.1 billion from 14.1 billion. Meanwhile, French industrial production surged by 1.8% as the economy continues to show signs that it is building upon the growth in the second quarter. We may be seeing the Euro supported by a spike in interest rate expectations. Overnight index swaps jumped to 99bps of rate hikes over the next twelve month from 85 yesterday. President Trichet was back on the wires today stating that liquidity efforts need to be phased out as the economy normalizes.

The dollar had its largest gain in two months on the back of comments from Fed Chairman Ben Bernanke, who stated that the central bank will look to tighten monetary policy when the economy has improved significantly. Following the RBA's rate hike markets have become more sensitive to speak from other policy makers as expectations are that they will begin to follow suit. Inflation is a concern and as soon as the U.S. economy appears to have turned the corner the FOMC will look to start withdrawing liquidity from the market. However, we actually saw Credit Suisse Overnight Index Swaps price in less tightening over the next twelve months and Fed fund futures remain unchanged. The current weakness in the labor market will make it prohibitive for policy makers to begin tightening over the near-term but expect the hawkish rhetoric to increase as they look to prepare markets for the change in policy. That alone could become a supportive factor for the greenback and may end its run as a funding currency. Therefore, watch for fundamentals to grow in importance in determining price direction. Today's calendar only boasts the U.S. trade balance which may not be market moving but investors will be interested to see of the dollar's weakness is leading to increased demand for exports.

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To discuss this report contact John Rivera, Currency Analyst: jrivera@fxcm.com

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