Sterling hit a two-month low against the euro on Friday, as the single currency continued to struggle a day after the European Central Bank signalled it could ease monetary policy further to prop up the euro zone economy. The pound powered almost 2 percent higher against the euro on Thursday, its heftiest one-day rise since January 2009, after ECB chief Mario Draghi told a news conference that the central bank was "open to the full menu of monetary policy".
In stark contrast, British interest rates are expected to rise next year. Those expectations, as well as sterling, were boosted on Thursday after bumper retail sales data, which showed volumes surged by 1.9 percent last month, the fastest pace in almost two years. The pound gained another half a percent against the euro on Friday to trade at 71.70 pence, its strongest since late August. "The ECB was as dovish as it could be without easing policy yesterday - the clear signal for us is that they're going to ease policy in December unless there's a significant upside surprise to inflation and growth, which looks very unlikely," said Bank of Tokyo-Mitsubishi UFJ economist Lee Hardman.
Hardman said sterling was likely to strengthen further against the euro, and highlighted the possibility of a deposit rate cut as something that would have a significant downwards impact on the euro. Credit Agricole's head of G10 currency research, Valentin Marinov, said the ECB had gone further than the market had expected by signalling that a deposit rate cut was possible.
"That couples with the stronger retail sales out of the UK, clearly highlighting that after a few months of disappointing data, the resilience of the domestic demand in the UK shouldn't be questioned," Marinov said. Against the dollar though, sterling fell half a percent to $1.5426, its weakest since October 14, as the dollar powered higher across the board, benefiting from euro weakness. The pound had hit a one-month high of $1.5510 after the retail sales numbers. Next week investors will turn to British growth data for the latest signs on how the UK economy is performing. The Federal Reserve's latest policy meeting will also be closely watched for signals on when the Fed might start to raise rates. Most expect the Bank of England to wait for the Fed to move before it tightens policy.