By Nigel Hodges of Currency Solutions

This week, that began with as much gloomy news as we've come to expect, has ended with a show of real British bull dog spirit as sterling has gone from strength to strength in the markets.

Since Monday when snow blanketed the City and reminded us all to have a bit of fun the Pound has been trading at much firmer levels, maintaining support above 1.4 on the Dollar and 1.10 on the Euro. In these grim economic times that constitutes a very good week indeed!

The MPC decision to reduce the base rate to 1% has been interpreted as a piece of decisive policy and led the Pound to gain on the Euro.

The ECB decided to keep rates unchanged at 2% and with figures showing the Eurozone deep in recession territory, the ECB is beginning to suffer for its complacency as reflected in the current Euro-Sterling exchange rate.

However, the UK does remain deep in the quagmire. G Brown even had a slip up over the D-word in Parliament yesterday. Plunging inflation, thousands of job losses and ever-worsening growth predictions remain very firmly in the economic picture and the IMF expect the UK to be one of the countries worst by the de... I mean recession.

Baugur has become the latest high profile victim of the credit crunch after filing for bankruptcy protection yesterday and the NISER predict a 3.8% drop in consumer spending and an 8.8% decline in business investment in the UK in 2009.

So far, so depressing.

What does seem to have changed is that markets are becoming somewhat de-sensitized to bad news. In the UK at least, recession has become an accepted state and markets are tending to focussing on more ambivalent results.

The Dollar has conceded ground to the Pound in a week that has been relatively light for US data. The private sector shed 522,000 jobs in January and non-farm payrolls are likely to show a rise in the overall unemployment rate.

The Federal Reserve rescue package remains in the Senate and we could see some Dollar strength and return of risk appetite when it gains Congressional approval. This week President Obama's 'Buy America' clause came under fire from foreign leaders as a thinly veiled form of protectionism. Obama responded that he wants to avoid a 'trade war' when global trade is necessary to financial recovery.

The Eurozone appears to be moving into the eye of the storm as figures show it is sinking deeper and deeper into recession.

Retail sales have contracted 1.6% in the year to December and unemployment has risen rapidly in Spain, by 199,000 people or 6% in January. Spanish unemployment sits at 14.4%, significantly higher than other EU nations.

The Czech Central Bank has cut rates to 1.75% and other Eastern European currencies have declined significantly against the Euro since December. The Czech Koruna has dropped 7.1%, the Hungarian Forint by 11.2% and the Polish Zloty by 13.3%.

It is expected that the Eurozone will continue to weaken in coming months as it moves into the trough of the downturn.

As a global economic crisis that began in the US and spread to the UK and Eurozone, the consensus is that recovery will follow a similar logic and any upturn in Sterling is expected to trail the US by 1-2 quarters.

General market sentiment is that the Eurozone has done too little, too late with regard to decisive economic policy. While the Federal Reserve and Bank of England have undertaken significant monetary easing alongside rate reductions, the ECB continues to sit on its hands and this is lowering market confidence in the Euro.

While market shocks provided a large degree of the initial volatility, we are now seeing the downturn spread as it trickles into trade, tourism and contracts export markets. For many of the world's peripheral economies this is the beginning of a long slow downturn.

For Eastern European currencies seeking to join the Euro this may delay the accession process.

Stability is a key prerequisite and the current downturn is making it impossible to find. Poland is also the largest of the Eastern European economies, whether this enhances or diminishes the effects remains to be seen.

In the coming weeks, economic data is likely to get worse from the Eurozone, with little policy activity to remedy it. It seems the dovetailing towards parity between the euro and sterling that we saw in the New Year has been left in the distance.

At the same time, we are just moving into the period where MPC activity over recent months could start to make its mark on the UK economy. While it is too early to speak of recovery just yet and volatility is certainly not confined to the past, the general feeling is that markets have come to their senses and the extreme trading ranges we have seen may be abandoned in favour of smaller ranges.

Call it learning to live with recession.

So have a good weekend and speak to your dealer if this has caused you even more confusion!

Footnote - It could be a case of fools rushing in.... but I have agreed to do a charity skydive this month for Global Angels, an international children's charity. Your support would be greatly appreciated!

http://www.globalangels.org/fundraiser/CurrencySolutions/

Ok endorsement over. But don't forget to donate!

This week began with a highly international flavour as Chinese New Year, Australia Day and an Indian National Holiday all coincided on Monday, making trading thin on the ground.

However, rather than exacerbate woes for the Pound, Sterling staged a significant rally spurred on by a minor recovery in confidence in the banking sector. Give me an S!

After Barclays announced they would still be making a post write-down profit in 2008 and would not need a bail out, thank you very much, shares in the bank staged a whopping 75% recovery.

Not quite tall buildings in a single bound but highly impressive nonetheless and indicative of what a little confidence can do.... Give me a T!

Now if we could just get the cheerleading squad into the HQ of RBS we could be all right.

The Monday morning rally was followed by 3 magical days of gains in global equity markets, giving the Pound and beleaguered currencies everywhere the chance to gain some lost ground.

Extreme risk aversion faded, allowing Sterling to gain a foothold on a much stronger trading platform, above the 1.4 level and up from the 23 year lows we saw against the US Dollar last week.

At close on Thursday the Pound was trading at 1.43 versus the US Dollar and 1.09 against the Euro.

However, government debt, currently running at 10% of GDP, is likely to continue to be a thorn in the side of Sterling, capping its potential in future.

While negative domestic data has continued to flow, markets have been routinely discounting bad news and this week the focus has been on macro-economic events.

The World Economic Forum began its meeting in Davos, Switzerland and the IMF issued its revised growth forecasts for 2009.

The IMF expects the UK to be hardest hit by recession with a 2.8% contraction expected in 2009. The German economy is also expected to contract by 2.5%, Japan by 2.6% and the US by 1.6%.

The IMF also cited the 'pernicious feedback loop' linking financial markets and the wider economy, reiterating that recovery in the financial sector is key to wider economic stability.

Redundancies have also been big news and a separate report from the International Labour Organization this morning put world wide job losses at 50 million. Corus has announced 2,500 redundancies in the UK while Royal Dutch Shell, Europe's largest oil company posted its first quarterly loss in 10 years on the back of lower oil prices and reduced demand due for the commodity.

In the US, the House of Representatives passed an $820 billion rescue package, which now faces approval in the Senate. Worryingly, the bill received not an iota of Republican support in the House potentially compromising its viability in the Senate. The FOMC left base rates unchanged as expected and reiterated focus on purchasing assets to aid the recovery of credit markets. The Washington Post consumer confidence survey reported record lows.

The Eurozone remains an enigma.

We know the situation is getting worse, latest figures confirm it. Yet despite this, consumer and business confidence is up with Sweden joining Germany and France in the rising index this week.

On the downside, German unemployment has risen, up to 7.8% with 56,000 jobs lost in December as global contraction takes its toll on the export led German economy.

Volatility has reduced between the European currencies and the Pound. Against the Polish Zloty, Sterling fluctuated between 4.70 and 4.63 this week, greatly reduced from before the New Year. Reports suggest Poland may have slipped into a 'technical recession' this week as Eastern Europe is beginning to be affected by a downturn in trading partners. The IMF also predicted a 0.4% slump across Eastern Europe.

In other markets the Aussie and Kiwi Dollars benefited from equity market rallies and firmer commodity prices early in the week. The RBNZ decision on Thursday to cut rates by 1.5% to the lowest level in history sent the Kiwi to its lowest level since 2002 against the US Dollar.

The Yen has weakened from recent highs with the return of risk appetite. Economic conditions continue to deteriorate in Japan, at odds with the strength of the Yen.

And finally there are still great opportunities to be had when it comes to spot deals. This week was a perfect example as Sterling sunk to 1.36, its lowest level in 23 years against the Dollar. If you need to exchange currency in the future contact your dealer to set up a limit order so you know these spikes will not be missed. Lock them in on a forward contract and you'll be laughing in years to come!

Have a good weekend.

Nigel Hodges of Currency Solutions