Will emergency budget breathe life into sterling?

Focus for some time now has been centred on the troubled fiscal state of the UK economy. Sterling has been in limbo this past week or so, with investors awaiting news on potential spending cuts. Ahead of the Budget itself, the new coalition is due to outline £6 billion worth of savings on Monday 24th, which should give the market an indication of upcoming policy.

The market will be looking for a concise plan to reduce spending and cut the sizeable mountain that is UK public debt. Should the Budget come up short on detail or lean on what the market considers to be "exaggerated" numbers, pressure on the UK currency stands to increase.

Duncan Higgins, senior analyst at Caxton FX comments, "Sterling's near term direction rather depends on where these spending cuts fall. There are growing fears that imminent fiscal tightening may derail what is only a fragile economic recovery. Nonetheless we expect that firm plans to address the deficit will improve sentiment toward sterling."

The market will also be watching for any change in the rate of VAT.

Higgins adds, "Cameron has not ruled out a rise in VAT, and such a move will sustain upward pressure on inflation."

Up to this point the Bank of England has been relatively dismissive of rising price levels, reiterating that spare capacity in the economy will bring the level back down in coming months.

"A rise in VAT will almost certainly dislodge inflation expectations and the Bank can only go so long without intervening to raise interest rates," continues Higgins.