EUR Hits Highest Since November 9th, But Retreats

While the Euro paused in its rally attempt that saw the EUR/USD pair hit a 10-week high overnight at 1.3860, the GBP continued to extend its gains against the USD and others.

The Euro remains pretty firmly perched above the recent pivot of 1.3750, and the gains are being fueled by both higher yield seeking behavior by investors as markets turn to risk-on mode. The second major factor is the recent data showing price pressures accelerating in the major economies, which is only being exasperated by higher oil prices at the moment.

The market therefore is looking to see which central banks are most likley to make early moves on lifting interst rates, and the ECB is tipped to move before the Fed. However, if that is the major factor, then perhaps the move is overstretched as a rate hike by the ECB may still be a few months away.

GBP Reloads, Rallies to 1.6228

Expectations around interest rates is helping to propel the UK higher, as the recent data point to inflation continuing to pick up in the country. Yesterday the UK posted very strong manufacturing data, which helped relieve some of the fear of the very weak 4th quarter GDP report. Today was saw the construction sector PMI surprise to the upside as well.

Overnight the Pound also got some support from the Bank of England deputy governor Charles Bean, who indicated that interest rates will have to be lifted if commodity prices continue to remain high. We may well have to respond to that by keeping domestically generated inflation lower. This could mean we have a 3rd MPC member that is willing to vote to raise rates.

Via Reuters: BoE may be forced to act on rates

Bean suggested a rate rise need not dent confidence if it coincided with an economic recovery, but would not be nice if it was in response to external factors.

If we raise rates because the economy is growing quite strongly and the recovery is entrenched then that's a 'nice' rise in interest rates and unemployment will be coming down, he was quoted as saying.

On the other hand, if it is in response to a spike in oil prices that we think is likely to persist and inflation is becoming embedded that is not a nice reason to raise interest rates, but we would have to do it.

Therefore, the better data for January has put some of the worst fears about the UK economy at ease and the inflation data and central bank committee comments of late presenting a more hawkish BOE have helped the GBP stage its most recent rally.