httpvh://www.youtube.com/watch?v=w5uNARJqhyc

Ben Bernanke and the Fed told the markets what we already knew yesterday night: The US economy is not in a great place at the moment. The Fed’s language was particularly bearish when describing the commercial property sector (weak) and the employment prospects (business unwilling to add to payrolls).

So, as had been expected, the Fed decided reinvigorate the economy. They couldn’t cut rates any further given their current position so decided instead to reinvest proceeds of expiring mortgage securities into longer term debt. This does not mean the massive expansion of liquidity that QE normally entails but instead limits the amount the Fed’s swollen balance sheet can shrink.

The dollar weakened in the immediate aftermath of the decision losing almost of all the gains it had made during the day’s session. This has reversed overnight however and we wake up with a once again strong dollar. This is mainly due to poor data out of China overnight which saw retail sales disappoint and industrial production fall to a 13 month low as imports, as we reported yesterday, slowed dramatically.

So what next for the dollar?

Well against the pound we expect it to strengthen over the next week as the Bank of England’s Inflation Report is likely to weigh on GBP. As we have highlighted in the past few days Mervyn King does not have the best recvord when it comes to talking up the pound, in fact he could be guilty of doing the exact opposite. We alos expect that the overall tone of the speech will be downbeat on the UK economy’s prospects as a whole with particular focus on the impact of the government’s austerity measures on growth and whether the inflation picture is likely to get out of hand given expected price rises in food, oil and the increase in VAT due January. We expect the report will see growth prospects cut.

We also have the small matter of the latest figures from the UK jobs market with 17,000 people expected to have stopped claiming jobless benefits in the past month. The jobs data is due at 09.30 while Mervyn is due to speak at 10.30.

We would expect to see GBP/USD continue to lose ground in the short term and test the 1.54/1.55 level over the coming weeks.