Sterling heads into Budget week on the 'front foot'

The pound is poised to enter into Autumn Budget week on the front foot, as investors shrug aside the impending political uncertainty. Unlike the past couple of Autumn fiscal events, expectations for next week’s Budget are rather subdued, with Chancellor Healey seemingly intent on keeping a low profile and delivering little in the way of surprises.

Tax rises look unavoidable to rebuild the fiscal headroom eroded by the spike in gilt yields. Even so, markets are taking comfort from signs that spending increases will be restrained, and from reports that capital gains tax rises, widely seen as among the most damaging of options for growth, are off the table.

Recent resilience in sterling owes much to expectations for monetary policy, as well as fiscal calm. UK inflation edged up expectedly in September, which seems to have dotted the i’s and crossed the t’s for a November rate hike from the Bank of England.

Yet with gilt yields continuing to print at near two decade highs, we are not convinced at the rush or need for the MPC to tighten beyond then.

The reception of the budget could prove decisive here. A well-received package of measures that sees yields drift lower could support the case of another hike, perhaps in February.

By contrast, a poorly received one that triggers another move upwards in yields would likely leave the MPC reluctant to tighten into a fragile gilt market.