The Bank of England’s Quarterly Inflation Report is one of the most important pieces of documents released by the central bank. The Inflation Report includes the central bank’s latest growth and inflation forecasts and frequently telegraphs their plans for monetary policy. Although the Monetary Policy Committee has not changed interest rates in nearly 2 years, they getting close to raising rates and because of that, investors are watching their every move.
The publication of the Inflation Report is rarely a nonevent for the GBP/USD. The following chart from Barclays Capital shows the rollercoaster like reaction in the currency pair days after the report is released. With the Bank of England upgrading its inflation forecast and downgrading its growth forecasts, sterling traders are as confused as ever and this confusion could turn into volatility for the British pound. The sell-off in the GBP/USD today indicates that the Quarterly Inflation Report was not nearly as hawkish as investors had hoped but many economists are still looking for the BoE to raise rates this year. In the short term, the less hawkish tone of the report could lead to additional position adjustments in the GBP but in the long term, the GBP is still headed higher because the BoE remains at the verge of raising interest rates. There is no question that the U.K. central bank will tighten before the Federal Reserve.
Greetings from Singapore! I was on Bloomberg Television this morning talking about my outlook for the EUR and GBP. If you can catch it, I will be guest hosting CNBC Australia from 6am-7am Singapore time (6pm – 7pm NY Time) tomorrow morning.
The WSJ and the Financial Times are crediting the drop in the British pound to the upcoming election. Worth a read though I still think that its more than just politics because politics have been in the background for the past few months. If you haven’t read it yet, read my piece on 5 Reasons Why the British Pound is Being Pounded
The political debate has also turned darker now that the quagmire that would be caused by a hung Parliament is considered a realistic possibility after the coming elections. In such a scenario, the winning party still doesn’t have sufficient Parliamentary support to carry out its legislative agenda without help from other parties.
The postelection stakes are large. Credit-ratings agencies have warned the U.K. it could lose its top-notch triple-A rating if the winner of the next election fails to offer a credible plan for fixing the nation’s finances. Any new government plan must address what looks like a still-fragile national economy.
With mixed to slightly better than expected U.K. economic data, traders may be scratching their heads about why the British pound has collapsed more than 300 pips this morning. Here are a couple of reasons:
1. Britain’s Prudential announced plans to buy AIG’s Asia operations for $35.5 billion in cash and stock – since this is partially a cash deal, it will involve selling British pounds.
2. Gilts Losing Luster – According to the FT, the gap between the U.K. and German interest rate has risen to the highest level since 2005. Even though the official U.K. interest rate is less than the Eurozone’s interest rate, the cost of servicing government borrowing in the U.K. over Germany has increased significantly.
3. BoE Could Raise QE – Based upon the dovish comments from Bank of England officials at the beginning of last week, there is a tiny risk of the BoE raising the size of their QE program on Thursday. Even if they do not, the tone of their statement will be dovish which is also bearish for the GBP. Continue reading