ECB President Trichet talks tough on Italian and Spanish debt issue

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European Central Bank president Jean-Claude Trichet was crystal clear yesterday about what is required to restore credibility to the Eurozone. Following two days of intervention by the ECB to support Spanish and Italian bonds he said on Tuesday that "we need governments to do what we consider to be their job" and "we ask is that all the decisions taken on 21st July are put into effect as quickly as possible."

The subtext of this message was that, with reserves of around €500 billion, the ECB does not have the resources to soak up €1.5 trillion of Italian government bonds.

At the same time, in the US, the Federal Open Market Committee was debating what to do with US monetary policy to counteract the threat of a double-dip recession. The FOMC said in its statement; "The Committee discussed the range of policy tools available to promote a stronger economic recovery in a context of price stability". 

Without specifying what those tools are, it is fair assumption that one of them probably is further quantitative easing, a strategy that has seen the Federal Reserve purchase some $2.3 trillion of Treasury and other bonds. In the end the FOMC focused on interest rates with the committee stating it was likely that rate would stay at its current level (of 0.25%) "at least through until mid-2013". The unprecedented two-year commitment shows just how nervous the Federal Reserve has become.

The comments from the ECB had no impact on the Euro but the Federal Reserve's comments did. The US Dollar moved lower across the board on the prospect of another two years of minimal returns, while commodity-linked currencies (Australian, New Zealand and Canadian Dollars) strengthened as a double-dip recession became a little less likely. 

There has been a rethink of that reaction overnight and there could be another one when London gets going.A wider UK trade gap and weak manufacturing and industrial production data had little direct impact on Sterling but Sterling did suffer on the negative sentiment following the recent looting and rioting.

There could be more negative sentiment today too with the Bank of England governor's due to have a Q&A on the Bank of England's quarterly inflation report. It is likely that the Bank has become even more reserved in its inflation expectations which, together with projections for continued slow growth, could persuade investors to look for another round of quantitative easing in Britain. 

Whilst that would be positive for equity prices, it would be bad for Sterling.