The British pound fell after the Bank of England stepped in to provide emergency funding to U.K. lender Northern Rock Plc, and as thousands of depositors queued outside the group’s 76 branch network to withdraw money.
Chancellor Alistair Darling said on Friday he had authorised the Bank of England to provide an unspecified amount of liquidity to Northern Rock, which had the biggest share of the country’s mortgage market in the first half of this year.
Interbank lending costs rose to their highest level for nine years this week as banks scaled back lending to each other. The Bank of England, which has come under fire from some financial institutions for its hands-off response to market turmoil, said earlier this week it would only provide support to institutions facing short-term liquidity problems, and would not bail out insolvent companies.
The pound declined to $2.0095, below the key $2.0140 chart support level. The currency may weaken to $2.00 in one week. It dropped for a sixth day versus the euro to 68.79 pence, the weakest since July 2006. The currency has risen 3 percent against the dollar this year as the two-year yield spread between the U.S. and U.K. widened to 1.35 percentage points this month, the most in more than 2 1/2 years, but now risks giving up those gains as the outlook for the UK banking sector worsens.
Meanwhile BNP Paribas analysts noted that ECB statistics show that branches of British Banks have been particularly active bidding for EUR liquidity in recent money market operations by the ECB. This explains why sterling was strong at the height of the liquidity crisis in August, supporting BNPP’s view that August sterling strength will be followed by broad weakness. Meanwhile, the BoE has added GBP 4.4 bln in its own money market, has widened the bands on bank’s reserve targets to +/- 37.5% from +/- 1% previously (designed to relieve the day-today pressure in sterling money markets only), has given support to Northern Rock acting as the lender of last resort. Northern Rock, which is said to have no US sub prime exposure has fallen victim of the sterling money market liquidity crunch. Northern Rock issued a profit warning suggesting that money market conditions will remain tight until the end of this year.
Other lenders including Halifax and Nationwide have increased their mortgage rates by 10 to 20bp and in August the housing market showed its weakest performance for two years according to the RICS index released yesterday. Sterling is seen remaining under pressure possibly heading to 2.00.
