Pound Falls to 3-Year Low Versus Dollar; More Cuts Are Needed

By Agnes Lovasz

Oct. 9 (Bloomberg) -- The pound dropped to the lowest level against the dollar in almost three years on speculation more interest-rate cuts are needed to prevent the global financial turmoil from driving the economy into a slump.

Britain's currency also fell for a third day versus the euro after the Bank of England joined central banks around the world yesterday in cutting interest rates and the government announced a rescue plan to restore confidence in banks. A report today may show U.K. house prices declined for an eighth month, adding to evidence the economy has entered a recession.

``The interest-rate cuts didn't really lead to the result the central banks tried to achieve and the coordinated action didn't work,'' said Lutz Karpowitz, a currency strategist in Frankfurt at Commerzbank AG, Germany's second-biggest lender. ``Risk aversion will get worse. Against this backdrop, the pound has to suffer because of the U.K. banking problems.''

The pound declined to $1.7258 as of 7:21 a.m. in London, from $1.7305 yesterday, and traded at $1.7171, the lowest level since Dec. 28, 2005. The British currency also weakened to 79.34 pence per euro, from 78.90 pence.

The Bank of England reduced its key interest rate half a percentage point to 4.5 percent yesterday, a day before its scheduled decision, as part of an unprecedented joint move by central banks to revive the global economy. Policy makers in the U.S., euro region, Sweden, Switzerland, Canada and China also reduced rates. The U.K. government also said it will invest 50 billion pounds ($87 billion) in the nation's banks to help ease the lending freeze.

Property Prices

Turbulence on financial markets is exacerbating a slump in U.K. property prices that has pushed the economy, Europe's second-largest, to the brink of a recession. Growth stalled in the second quarter, ending the longest stretch of uninterrupted expansion in a century. The International Monetary Fund expects the U.K. economy to contract 0.1 percent next year after forecasting growth of 1.6 percent six months ago.

HBOS Plc, Britain's largest mortgage lender, will say today house prices fell 1.7 percent in September, after declining 1.8 percent in the previous month. The report is due to be published at 9 a.m. London time today.


``No matter which index you look at, we don't see an end to the drop in house prices,'' said Karpowitz. ``It underlines the picture that the economy is heading into a recession. Private consumption will suffer and the banking problems won't go away.'' The pound slide to $1.62 by the end of the month and 81.50 per euro by the end of the month, he said.

Interest-Rate Futures

Traders stepped up bets the Bank of England will reduce its benchmark interest rate further. The implied yield on the March short-sterling futures contract declined 21 basis points to 4.06 percent yesterday. It was 4.72 percent at the end of last week.

``It depends on the news, but if things are going on anything like they're going on now then yes, we'd see another big one,'' Christopher Allsopp, a former U.K. policy maker who voted on the Bank of England's last emergency decision seven years ago, said in an interview yesterday. ``What central banks are always worried about is an upward spiral of prices and wages and there hasn't been a sign of that in Britain.''

The pound may fall to $1.7050 in coming days, according to Pak Lai Ng, a technical analyst at Forecast Singapore Pte, citing the currency's weekly relative strength index.

The index shows sterling's 3 percent loss this month isn't overdone, Ng said. The currency is also poised to weaken as stochastic and moving average convergence/divergence charts are showing sell signals, he said. So-called support at $1.7050 is near the pound's low of Nov. 28, 2005, Ng said.

``The pound looks weak,'' Singapore-based Ng said. ``This move has further to go and it could come very quickly.''

Two-Year Notes

U.K. two-year government bonds advanced yesterday as investors demanded safer, shorter-dated assets. The yield on the two-year gilt, which is more sensitive to the interest-rate outlook, dropped 9 basis points to 3.50 percent. The price of the 4.75 percent security due June 2010 climbed 0.14, or 1.4 pounds per 1,000-pound ($1,726) face amount, to 102.01.

The 10-year gilt dropped, driving the yield 6 basis points higher to 4.29 percent and increasing the difference in yield, or spread, between two- and 10-year gilts to 79 basis points, the widest since July 2003.

The National Institute for Economic and Social Research said yesterday Britain entered a recession in the third quarter. Gross domestic product shrank 0.2 percent in the three months through September, the first contraction for a calendar quarter since 1992, the Niesr said. Consumer confidence fell to its lowest level since at least 2004, a separate report by Nationwide Building Society showed.

As part of the U.K. rescue package, the government will buy preference shares in banks, and the Bank of England will make at least 200 billion pounds available for financial institutions to borrow under the so-called special liquidity plan, the Treasury said. The government said it will also provide a guarantee of about 250 billion pounds to help refinance debt.

The steps provide ``the necessary building blocks to allow banks to return to their basic function of providing cash and investment for families and businesses,'' Chancellor of the Exchequer Alistair Darling said in a separate statement.

To contact the reporter on this story: Agnes Lovasz in London at alovasz@bloomberg.net