The British pound saw tremendous whipsaw action tonight as it was pulled in opposite directions by higher than expected inflation readings on one side and deteriorating economic data on the other. UK CPI readings came in at much hotter than expected 3.0% versus 2.6% projected, but the initial knee jerk reaction which saw the pair spike to 1.9590 was quickly reversed as traders considered the long term implications of higher inflation and slowing economic growth.

Cable was also hurt earlier in the evening by further evidence of massive slowdown in the housing and retail sectors as both RICS and BRC shop indices registered worse than expected readings with RICS falling to -95.1 – the worst decline in 14 years. The quick turnaround in pound’s fortunes shows that most market participants view tonight’s data as ultimately negative for the currency suggesting that fears of a serious slowdown outweigh the considerable pricing pressures flowing through the system. One key report that may tip the balance of power is tomorrow’s UK employment data. If jobless claims rise instead of remaining steady as expected the pressure on the UK monetary authorities to ease will increase exponentially. For the time being the 1.9500 figure appears to be the battleground between the bulls and the bears this week.

The EUR/USD meanwhile was dragged lower by the turn in cable as the pair dropped through 1.5500 and triggered stops all the way to 1.5460 level. EZ data once again offered little help to the longs as French Trade Deficit widened to -2.5 Billion euros. Attention now turns to the US Retail Sales numbers dues out at 12:30 GMT today. The state of the consumer is critical to the health of the US economy in the second half of 2008. If today’s report can show that the US consumer is resilient enough to withstand $4/gallon gas and plummeting house prices, the case for further dollar bullishness will be strengthened. If however, the numbers miss badly to the downside markets will once again begin pricing more cuts from the Fed and the price action in both the euro and pound could reverse sharply.

David Rodriguez is a Currency Analyst at FXCM.