UK interest rates on hold at 5%

The Bank of England kept interest rates unchanged at 5% last week; this was as widely expected and had only a muted impact on the Pound. How the Bank of England (BoE) came to its decision will become clearer next week when the minutes are released.

Financial markets are continuing to place a greater likelihood on interest rates rising rather than falling in the coming months as the UK central bank struggles to contain inflation. However, a fall in Nationwide consumer confidence to its lowest level in four years, a further 2% decline in house prices in June according to the Halifax, and a contraction in industrial production all served to heap pressure on the Pound and highlight the dilemma facing the BoE.

The divergence between the inflation and growth outlook could come further into focus this week. Consumer price inflation data is released on Tuesday and the May labour market report is due on Wednesday. Sterling could find some support if inflation accelerates faster than expected, although further signs of a weakening labour market would increase fears over housing market and household spending activity.

Euro (EUR)

The Euro strengthened against Sterling despite signs that a slowdown in the Euro zone economy is becoming more pronounced. Growth of the Euro zone economy in the first quarter was revised lower, bringing the annual rate down to 2.1% from the earlier 2.2% estimate. German Industrial output continued to decline, falling for a sixth consecutive month.

The Euro continues to find support from the European Central Bank.s (ECB) determination to focus on rising inflation. Although this will be to the detriment of Euro zone growth, ECB officials continued to highlight their message that the ECB will act as necessary to achieve price stability.

The GBP/EUR rate closed down 0.87% at 1.2512, from 1.2622 a week earlier, benefiting those selling Euros to buy Pounds.

The Euro could come under some selling pressure if data this week provide further evidence of growing pessimism over the growth outlook this week. The highlight will be the German ZEW research institute's business survey, which is released on Tuesday, with investor confidence expected to slip to a near 16-year low.

US Dollar (USD)

The US Dollar strengthened against Sterling in the first half of the week. In the absence of major economic data, the US Dollar took its lead from initial declines in oil prices to lows around $137 per barrel.

In the latter half of the week, recovering oil prices and fears over the US housing market enabled Sterling to recoup its losses against the Dollar. Pending home sales plunged 4.7% in May, suggesting housing market activity is yet to reach a bottom, whilst the housing market fears were heightened by speculation that the government may be forced to bail-out the two main mortgage agencies Freddie Mac and Fannie Mae.

The GBP/USD rate closed up 0.29% on the week at 1.9883 from 1.9826 a week earlier, benefiting those converting Pounds into US Dollars.

Retail sales on Tuesday and consumer price inflation data on Wednesday could offer some support to the US Dollar if the data are stronger than expected. The funding crisis of the mortgage lenders, as well as Federal Reserve Chairman Bernanke.s testimony on the economy could also impact on the US Dollar.

Canadian Dollar (CAD)

The Canadian Dollar strengthened against Sterling in the early stages of the week, with the GBP/CAD rate trading below the 2.00 level for the first time in July. After initial declines in oil prices, the Canadian Dollar rose as price levels recovered towards fresh record highs.

Although the level of housing construction starts dipped in June in-line with expectations, activity in the housing sector remains at historically high levels and still compares favourably to troubles in the sector in other major economies. The Canadian Dollar lost some support on Friday following a surprise decline in the number of people employed in the economy and concerns over the state of the neighbouring US economy.

The GBP/CAD rate closed at 2.0079, down 0.28% from 2.0136 a week earlier, benefiting those selling Canadian Dollars to buy Sterling.

The Bank of Canada.s (BoC) interest rate policy announcement will be this week.s key release on Tuesday. Markets presently expect interest rates to remain on hold at 3%, although any indications that the BoC is moving nearer to raising interest rates could offer support to the Canadian Dollar.

Australian Dollar (AUD)

The Australian Dollar weakened against Sterling early in the week, with the GBP/AUD rate trading back above the 2.07 level. Deterioration in business conditions in June and a fall in consumer sentiment in July to a 16-year low highlighted the tighter economic climate and supported the case for interest rates not to be raised further.

However, the labour market data on Thursday boosted the Australian Dollar, with almost 30,000 extra jobs created in June, exceeding the consensus forecast. Stronger commodity prices and an improvement in investor risk tolerances later in the week also underpinned support for the currency. The GBP/AUD rate closed at 2.0565, down 0.05% from 2.0576 a week earlier, benefiting those seeking to convert Australian Dollars into Pounds.

The key release this week will be Tuesday.s minutes from the Reserve Bank of Australia.s interest rate policy meeting earlier this month. The Australian Dollar could lose some support if these reinforce expectations that the likelihood of a future interest rate hike has diminished.

New Zealand Dollar (NZD)

The economic indicators for the New Zealand economy continue to point to deterioration in economic conditions, undermining support for the New Zealand Dollar. The manufacturing sector contracted for the a third time in four months in June, whilst a separate survey of business opinion showed business activity will be likely to decline further in the coming months. Household finances are also being constrained by falling house prices, which were down 2.2% in June from a year earlier.

Despite the weak data, the New Zealand Dollar recouped most of its losses against Sterling in the latter half of the week, benefiting from strong gains in commodity prices and improvement in investor risk tolerances. The GBP/NZD rate closed 0.09% higher at 2.6127, from 2.6104 a week earlier, benefiting those converting Pounds into New Zealand Dollars.

Consumer Price inflation data for the second-quarter on Monday will be the key release this week. The New Zealand Dollar could lose some support if the acceleration in inflation is slower than expected, and seen as raising the possibility of an interest rate cut as soon as next week.

South African Rand (ZAR)

The South African Rand strengthened against Sterling over the week, but generally lacked clear direction whilst trading in a range between 15.0 and 15.5. The Rand retreated as global stockmarkets and investor risk appetite waned, although there was significant speculation of merger or acquisition activity to underpin support for the currency.

The economic data, although sparse, provided further evidence of the risks to the economy with manufacturing production growth for May moderating sharply. The GBP/ZAR rate closed down 0.35% at 15.297, from 15.351 a week earlier, benefiting those converting Rand into Pounds.

Retail sales data for May on Wednesday will provide the focus for markets this week, with the South African Rand likely to lose support if there are signs that consumer spending is being curtailed more sharply than expected.