- Pound Sterling shows signs of further breakdown ahead of August UK inflation data.
- UK headline inflation is seen accelerating due to rising energy prices.
- Uncertainty grows over PM Sunak fulfilling his promise of halving headline inflation to 5% by year-end.
The Pound Sterling (GBP) attempts recovery despite investors remaining uncertain over the UK’s economic outlook. Expectations abound of one more interest rate increase from the Bank of England (BoE), a decision that will be announced on Thursday. The BoE is not in a position to pause the policy-tightening spell as inflationary pressure is stubborn and wage growth momentum is strong.
Before the BoE interest rate decision, investors will keenly watch the inflation data, which is scheduled for Wednesday. The headline Consumer Price Index (CPI) is expected to accelerate due to higher energy prices as global oil prices have rallied in the past four months. Core inflation is almost stable due to a higher labor cost index. Market participants seem uncertain whether UK PM Rishi Sunak will fulfill his promise of halving headline inflation to 5% by year-end. The promise of halving inflation to 5% was made by Sunak when headline inflation was at a double-digit figure in January.
Daily Digest Market Movers: Pound Sterling faces pressure ahead of inflation data
- Pound Sterling discovers support near 1.2370 ahead of UK inflation data for August, which will be released on Wednesday at 06:00 GMT.
- Headline inflation is expected to persist higher as global oil prices have rallied more than 40% in the last four months.
- As per the estimates, monthly headline CPI expanded at a stronger pace of 0.7% despite contracting by 0.4% in July. Annual headline inflation is seen accelerating to 7.1% against July’s reading of 6.8%.
- The annualized core CPI that excludes volatile oil and food prices is seen softening marginally to 6.8% vs. 6.9% in July. Investors remain worried about high core inflation led by stronger wage growth.
- Generally, Bank of England policymakers take into account core inflation for monetary policy consideration, but higher headline CPI could elevate trouble for them as household income would be squeezed due to more out-of-pocket expenditures on gasoline and energy components.
- The inflation data for August will be followed by the interest rate decision from the BoE, which will be announced on Thursday.
- A Reuters poll showed that the BoE is going to raise interest rates by 25 basis points (bps) to 5.5% in its upcoming monetary decision, which is scheduled for September 21.
- Apart from the interest rate decision for September, investors would like to know whether the BoE will raise interest rates in November or will wait to assess the impact of current policy rates before making a decision.
- Citigroup now predicts the BoE will pause rate hikes in November in contrast to the 25 bps hike expected earlier.
- More interest rate hikes from the central bank would elevate their consequences on the manufacturing sector and labor growth. The British Chamber of Commerce (BCC) reported on Monday that 46% of firms it surveyed said the increase in rates so far was having a negative impact, while 45% said they were not directly impacted.
- The market mood remains cautious in the US as investors await the monetary policy decision from the Federal Reserve (Fed), which will be announced on Wednesday. The Fed is widely expected to keep rates unchanged as inflation is falling and the economy is still resilient.
- It will be exciting to watch whether the Fed manages to secure the economy on a path of easing inflation with only lightly diminished economic prospects. US Treasury Secretary Janet Yellen said on Monday she saw no signs the economy is entering a downturn.
- The US Dollar Index (DXY) oscillates inside Monday’s trading range despite the Fed being expected to maintain the status quo on Wednesday. Meanwhile, 10-year US Treasury yields climb above 4.3% ahead of Fed policy.
Technical Analysis: Pound Sterling struggles to sustain above1.2400
Pound Sterling climbs above 1.2400 while the broader bias remains weak as investors see a vulnerable economic outlook for the UK economy on expectations of one more interest rate increase from the BoE this week. The Cable seems broadly bearish, trading below the 200-day Exponential Moving Average (EMA), which is at 1.2490. Downward-sloping 20 and 50-day EMAs indicate that the short-term trend is bearish. Momentum oscillators also indicate strength in the bearish impulse.
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.
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