Political inaction is weakening the Euro

Sterling hit a 16-month high against a weakening euro this week, as markets lose faith in the EU leaders’ ability to find a credible and permanent solution to the Eurozone crisis.

Jane Foley, senior currency strategist, Rabobank, said: “GBP can be expected to continue outperforming the EUR on Eurozone woes. Given the risk of further falls in EUR/USD on a 3-month view, EUR/GBP looks to be headed towards 0.8200.”

A succession of EU summits and bi-lateral meetings between key EU leaders over the past six months have failed to provide any lasting solutions, while the opportunity to implement a lasting solution is narrowing steadily.

Mike Turner, head of global strategy and asset allocation, and manager of the Aberdeen Multi-Asset Fund, said: “Despite much trumpeting of a breakthrough at the latest European gathering in December, in reality there was no new, comprehensive solution to the euro-zone crisis.

“Rhetoric was not backed up with meaningful action, with neither the support nor impetus required for the European Central Bank to begin to monetise debt,” Turner said.

“We remain concerned that measures to address the crisis are half-hearted and continue to fall far short of solving the fundamental problems of competitiveness and disjointed fiscal policy,” he said.

The most recent meeting between German Chancellor Angela Merkel and French President Nicolas Sarkozy this week again failed to make headway, causing EURGBP down to 0.82, the lowest level since September 2010. Commerzbank analysis suggests this could drop further.

At their meeting, Merkel and Sarkozy discussed fiscal union in depth, Brooks said, “which is good in the long-term but won’t bring down sovereign yields any time soon and so keeps the euro under pressure.”

Part of the weakness of the euro is in the growing strength of the recovery of the US economy. GBPUSD, currently trading at around $1.54 is expected to fall to $1.50. Sterling is expected to retain its strength against the euro as a growing number of market participants see the UK as safe haven for their assets.

The ECB is in the mood for an aggressive monetary expansion. Citigroup economists are expecting the ECB to “launch an additional three-year LTRO (long-term refinancing operation), expand the covered bond purchase programme that was re-launched in October 2010, and potentially pursue unsterilized purchases of unsecured bank debt if the current set of non-standard measures fails to appease the illiquidity plaguing European bank.”

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