Amongst the celebrations and fireworks, the hangovers and pledges of a better lifestyle, the Bank of England has attempted to resuscitate the national economy by lowering interest rates to 1.5% this week.

The New Year has brought a change of fortune for the Pound. After touching on a record low of 1.02 against the Euro on New Years Day, Sterling has rallied back to 1.11. Even the reduction of interest rates, to the lowest level in the Bank of England's history, didn't dampen support for Sterling as markets appeared to focus on the long term view. 

Although the move was largely expected and priced into markets, the Bank's decision marked a positive turn for investor sentiment regarding Sterling this week. This is not due to any strengthening of the UK situation, but rather due to it getting worse elsewhere. Although we have seen further contraction in the UK manufacturing and industrial sectors this week, this has been largely discounted by markets as they focus on bigger news from the US and Eurozone.

US job loss figures released today are expected to top 500 000 for December, taking unemployment to its highest level in 16 years. Not surprisingly, the Dollar has suffered ahead of the announcement, particularly against the Canadian Dollar and Yen and the Pound is managing to stay above 1.5. Oil has also taken a dive back towards $45 a barrel and the tone of equity markets remain negative as job loss figures are a strong indicator of the health of the US economy. Commodity prices have also suffered this week, ending the run of the Rand and Australian Dollars against the Greenback.

The big story this week has been the Eurozone where things appear to have taken a rapid turn for the worse. I suspect this has more to do with the focus of the media than the actual situation, but the Euro has suffered nonetheless. While the initial consensus was that the Eurozone was well placed to weather the credit crunch, economic downturn in the region is gaining momentum and the Euro has suffered as a result.

German unemployment has risen for the first time in 3 years while manufacturing output declined by 6% in November. Industrial and consumer confidence remain at record lows in the regions largest economy and this has an undeniable impact on fellow members of the Eurozone. In Spain, manufacturing output has declined by 15% and unemployment rates are at a 12 year high. The ECB is coming under increasing pressure to cut interest rates although a reduction next week may be viewed as too little, too late by markets.

As interest rates are progressing towards zero throughout the world, many central banks are nearing the extent of their policy limits. Quantitative easing is being mooted by some economists as the next step in stimulating economies, which is in effect a licence to print money and a strategy that comes fraught with risk.

As we move into the New Year some economists are predicting the low point of the downturn could be in mid 2009. Rather than being a thing of the past, we may see volatility actually increase as further interest rate reductions and more unconventional government measures are taken to ease the dire financial conditions. These could well induce spikes in foreign exchange rates and it is wise to have your dealer ready to contact you when they occur.

Have a good weekend!