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The euro exchange rate rose against the pound and the US dollar

The euro rose against the pound and the US dollar yesterday and has started strongly this morning despite the ever present concerns about the outlook for Greece and the other euro zone countries ensnared by the sovereign debt crisis.

This despite the work of the three main credit ratings agencies, Moody’s, S&P and Fitch who between them have lowered the credit rating of 6 euro zone countries, including Italy, Spain and Portugal, lowered the credit rating of various Spanish banks and placed on ‘negative watch’ France, Austria and the UK, suggesting that these three run the risk of losing their coveted AAA credit rating within the next 18 months.

The action on the UK came down to two factors: a feeling that there seems to be less of a cushion for the UK economy to absorb unforeseen negative surprises due to a weaker growth environment and the still risky situation in the euro zone, which is believed could yet deteriorate again and lead to a worsening in funding conditions.

The credit rating on a total of six euro zone nations (Italy, Portugal, Spain, Malta, Slovakia and Slovenia) was also cut while the outlook was lowered for France and Austria with the culprit the considerable uncertainty over the euro area’s prospects for institutional reform of its fiscal and economic framework and over the resources that will be made available to deal with the crisis. Moreover, Europe’s weak macroeconomic outlook complicates the implementation of domestic austerity programmes and the structural reforms that are needed to promote competitiveness.

Data out of the UK yesterday showed a sharp drop in the rate of inflation where the headline Consumer Price Index (CPI) rate fell to a year-on-year rate of 4.2%, from 4.8% the month before. The two month drop in prices is the largest since November 2008, when the CPI fell by 1.4% and is the lowest reading since November 2010.

According to the Office for National Statistics (ONS), the main reason behind the retreat in prices is a large ‘base-effect’ as last year´s rise in the rate of value added tax, to 20% from 17.5%, dropped out of the calculations.

Economists at Barclays Capital commented that, “it is true that fiscal austerity, the euro area turmoil and tight credit remain serious causes for concern; but falling inflation is a small mercy for which UK households can be thankful. As set out in our most recent quarterly outlook lower inflation is the main source of the recovery we expect to see in aggregate demand later in the year. As inflation drops we expect real household disposable income to grow by 1% in 2012, following a severe 1.6% decline in 2011, and for this to lead to some improvement in household spending. This, in turn, should give companies the confidence to re-start investment.”

Further afield, the Bank of Japan (BoJ) stunned the markets by increasing its asset-buying and lending scheme by 10 trillion yen to 65 trillion yen in a desperate bid to boost the struggling Japanese economy. The BoJ also set an inflation target of 1% and kept its interest-rate range unchanged at a 0-0.1% range.

The latest twist in the never ending Greek saga is yet another round of delays after Athens apparently couldn’t get its act together, forcing Eurogroup President Jean-Claude Juncker to cancel today’s meeting. In a statement released yesterday, Juncker explained that “further technical work between Greece and the Troika is needed in a number of areas, including the closure of the fiscal gap of €325m in 2012 and the debt sustainability analysis.

“Furthermore I did not yet receive the required political assurances from the leaders of the Greek coalition parties on the implementation of the programme,” he added.

Thus, Juncker announced the cancellation of the extraordinary meeting of the Eurogroup, instead opting for a simple conference call in order to discuss details in preparation for the ordinary meeting scheduled next Monday.

Greek politicians remain unable to come to an agreement over how to make up the €325m budget shortfall, although reports suggest €125 million could come from cuts to the army budget and the balance from further public salary cuts. Athens must identify the budget cuts in order to receive approval of their austerity measures and receive the okay on the release of the second €130 billion package.

EU leaders are also requesting assurance by coalition government members that they will follow through on these measures even if power changes hands in the April elections. A government source told Reuters on Tuesday that the principal candidate to be the next Greek Prime Minister, Antonis Samaras, plans to sign such a commitment this morning.

Chinese premier Wen Jiabao has stated this morning that his country is prepared to become more deeply involved in the resolution of the European financial crisis, according to a report on Bloomberg. Mr. Jiabao was speaking at a press conference with European President Herman Van Rompuy.

He is also said to have indicated that China´s “willingness” to support Europe is sincere and firm, although the continent must send a clearer message to show how it’s working to strengthen its finances.

Thus, the Chinese leader explained that, “we expect those highly indebted countries to strengthen fiscal consolidation, cut deficits and reduce debt risks in light of their national conditions (…) we hope the European Union will soon reach internal consensus, make the political decision and send to the international community a clearer and a stronger message of policy responses.”

Those remarks were echoed by the chief of the country´s central bank, Zhou Xiaochuan, who added remarks which are being interpreted as signalling that the country will not reduce its holdings of euro area assets.

This has sparked a rally in the overnight Asian markets and helped the euro to continues to strengthen across the board.