Pound Sterling turns subdued as caution soars ahead of interest rate policy
- Pound Sterling remains topsy-turvy ahead of BoE’s interest rate decision this week.
- Recession fears in the United Kingdom economy deepen due to aggressive policy-tightening by the BoE.
- The BOE is expected to raise interest rates consecutively for the fourteenth time.
The Pound Sterling (GBP) faces immense pressure as investors eye the monetary policy of the Bank of England (BoE). The GBP/USD pair struggles to gauge direction as investors worry about deepening recession fears due to aggressive policy-tightening by the United Kingdom’s central bank. To tame stubborn inflation, the BoE is expected to raise interest rates for the fourteenth time in a row.
The Bank of England has already raised interest rates to 5%, and a fresh interest rate hike of 25 basis points (bps) is expected to build more pressure on inflation. Labor shortages and higher food prices have remained major contributors to sticky UK inflation. BoE policymakers are also expected to consider a 50 bps interest rate hike as inflationary pressures in the UK economy are the highest compared to other G7 economies.
Daily Digest Market Movers: Pound Sterling faces pressure as market mood turns cautious
- Pound Sterling remains rangebound below 1.2900 as investors await interest rate policy by the Bank of England for further guidance.
- BoE policymakers are expected to discuss further policy tightening as they are committed to bringing inflation to 2%.
- Inflationary pressures in the United Kingdom’s economy are well diverged from the desired rate of 2%, therefore more interest rate hikes cannot be ruled out.
- UK headline and core Consumer Price Index (CPI) data are at 7.9% and 6.8% respectively and will take sufficient time in easing to the desired rate.
- Headline inflation has softened to 7.9% from its peak of 11.1% but a recent recovery in global oil prices has elevated fears of a rebound in inflationary pressures.
- Core inflation is still near a 31-year high of 7.1% due to higher cost of services and tight labor market conditions.
- Recently, the BoE and UK authorities discussed with industry regulators to avoid overcharging customers so that the burden from households could ease and inflationary pressures could be anchored.
- UK delegates decided to widen their inflation-controlling toolkit to better deal with inflationary pressures.
- The BoE is expected to raise interest rates further by 25 bps to 5.25% despite fears of a recession enlarging.
- A poll conducted by Reuters showed that interest rates in the UK economy will peak around 5.75%.
- Last week, UK Treasury advisers remained concerned about deepening recession fears due to aggressive policy-tightening by the BoE.
- The market mood turns cautious as China’s official Manufacturing PMI contracts for the fourth month in a row amid bleak demand. The economic data landed 10 bps higher than expectations of 49.2. A figure below 50.0 is considered a contraction.
- The US Dollar Index (DXY) approaches 102.00 as the United States’ upbeat performance in the April-June quarter has triggered hopes of more interest-rate hikes from the Federal Reserve (Fed).
- US Gross Domestic Product (GDP) in Q2 rose by 2.4% amid a tight labor market and higher momentum in consumer spending.
- On Friday, the US Labor Cost index for Q2 dropped to 1.0% vs. expectations of 1.1% and Q1 publication of 1.2%. This might ease retail demand and eventually the price pressures.
- Meanwhile, investors are preparing for the US ISM Manufacturing PMI data, which will be released on Tuesday at 14:00 GMT. The economic data is expected to continue its contracting spell.
Technical Analysis: Pound Sterling drops near 1.2800
Pound Sterling remains back-and-forth below the round-level resistance of 1.2900 as investors shift their focus toward the interest rate decision by the Bank of England. The Cable aims for a firm footing after correcting to near the 20-day Exponential Moving Average around 1.2860. The major trades in a Rising Channel chart pattern and it can discover support after testing the lower portion of the trade pattern.
BoE FAQs
The Bank of England (BoE) decides monetary policy for the United Kingdom. Its primary goal is to achieve ‘price stability’, or a steady inflation rate of 2%. Its tool for achieving this is via the adjustment of base lending rates. The BoE sets the rate at which it lends to commercial banks and banks lend to each other, determining the level of interest rates in the economy overall. This also impacts the value of the Pound Sterling (GBP).
When inflation is above the Bank of England’s target it responds by raising interest rates, making it more expensive for people and businesses to access credit. This is positive for the Pound Sterling because higher interest rates make the UK a more attractive place for global investors to park their money. When inflation falls below target, it is a sign economic growth is slowing, and the BoE will consider lowering interest rates to cheapen credit in the hope businesses will borrow to invest in growth-generating projects – a negative for the Pound Sterling.
In extreme situations, the Bank of England can enact a policy called Quantitative Easing (QE). QE is the process by which the BoE substantially increases the flow of credit in a stuck financial system. QE is a last resort policy when lowering interest rates will not achieve the necessary result. The process of QE involves the BoE printing money to buy assets – usually government or AAA-rated corporate bonds – from banks and other financial institutions. QE usually results in a weaker Pound Sterling.
Quantitative tightening (QT) is the reverse of QE, enacted when the economy is strengthening and inflation starts rising. Whilst in QE the Bank of England (BoE) purchases government and corporate bonds from financial institutions to encourage them to lend; in QT, the BoE stops buying more bonds, and stops reinvesting the principal maturing on the bonds it already holds. It is usually positive for the Pound Sterling.