The AUD - Australian Dollar weekly update

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NEW GOVERNMENT BUT WHAT NEXT?

Investors wait to see how the Lib-Con coalition will tackle the debt. US dollar and yen prosper as nervous investors shun the euro and 'risky' currencies.

 

Sterling opened this morning almost unchanged on the week, close to $1.64. On the way it had peaked at $1.68 and troughed below $1.6250, in that order. It is close to record lows.

 

Following the previous week's general election political worries about sterling were replaced by... political worries. There was nervousness when it took five days to form a government and uncertainty afterwards. From financial markets' point of view the Liberal-Conservative coalition is probably the least worst alternative under the circumstances, given that a single-party government is out of the question. Dave and Nick are giving every impression that they are dedicated to the job of reducing the country's debt to something more akin to 'normal' levels. They have mentioned spending cuts - including ministerial salaries - and efficiency savings amounting to £6 billion this year. There is reason to be optimistic that the first coalition for 65 years will stick to its mission and do the job the nation needs.

 

But investors need more than vague promises before they will be able fully to renew their faith in sterling, as will the credit ratings agencies. A quick-fix spending review and the Queen's Speech next week will give an outline as to how the Camelegg government intends to prioritise its tasks; it will be the best part of a month beyond that before the really serious stuff comes out in the Proper budget (as opposed to the flimsy pre-election one that nobody really believed). Investors and ratings agencies will not be satisfied unless George Osborne's budget speech is dripping with the blood of quangos and diversity outreach counsellors. They are prepared to be patient: after all, it would be silly to bounce a new government into precipitate decisions before it has searched the cupboards of Downing Street and Whitehall for financial skeletons. But patience and enthusiasm are not quite the same thing. Sterling will have to wait for its renaissance.

 

In the meantime, the economy is bumping slowly up the same hill it had been tackling before the election. House prices, according to the RICS, the DCLG and Rightmove, are rising at a sustainable pace. Industrial and manufacturing production in the UK grew by 2.0% and 3.3% in the year to March. NIESR (The National Institute for Economic and Social Research, an apolitical body) estimates that the economy grew by +0.5% in the year to April. Dole claims went down by another 27k in April. The bad news is still there as well. Britain's trade deficit went up by a fifth in March as a result of increased imports. The weak currency is not doing its job of balancing trade.

 

Financial markets initially had faith in the European Union's €750 billion financial stability fund but it did not take long for that support to evaporate. A classic case of 'too much, too late' saw Germany step up to the plate with a real offer of genuine money but the damage to confidence had already been done. It is no longer just Greece that investors worry about. The concern now is that we could be facing another global financial crisis. With that in mind, investors favoured the US dollar and the Yen as the safest places to park their money until the problem blows over. The Australian dollar suffered the same fate as other 'risky' currencies, including the pound.

 

The Australian economic news was not compelling enough to distract investors from their simplistic risk/safety agenda. NAB's business confidence and conditions surveys both fell; the first by three points to 13 and the second by five to 8. Home loans and investment lending cancelled each other out. Mortgages were down by -3.4%; investment lending rose by +3.0%. Thursday's employment figures were solid once again. Another 33.7k people found jobs while unemployment was steady at 5.4% and the participation remained unchanged at 65.2%.

 

Sterling is in limbo until the new prime minister unveils his plans to sort out the debt. It is being dragged down by the ailing euro (as is the Swiss franc, for slightly different reasons) against the US dollar and the Japanese yen unless and until investors rethink their doomsday scenario for southern Europe. With the pound close to record lows it is difficult to be optimistic in the near term. Buyers of the Australian dollar should hedge at least half of their currency needs.

[Guest lalaer]

thanks for the heads up