Pound Sterling falls sharply on UK slowdown fears, BoE policy in focus
- Pound Sterling reverses downside as the risk-off impulse strengthens ahead of Fed policy.
- The BoE is expected to keep interest rates unchanged due to potential slowdown fears.
- A steady monetary policy decision from the BoE will keep the policy divergence with the Fed intact.
The Pound Sterling (GBP) drops vertically as investors' risk appetite fades due to upside risks to Middle East tensions. Sterling weakens against the US Dollar as the latter recovers ahead of the interest rate decision by the Federal Reserve (Fed).
Investors await the monetary policy from the Bank of England (BoE), which will be announced on Wednesday. The GBP/USD pair broadly remains on the tenterhooks as the BoE is expected to keep interest rates unchanged at 5.25%, The reasoning behind expectations of a steady monetary policy decision from the BoE is deepening recession fears for the UK economy. Inflation is significantly far from the desired rate of 2% and risks of price pressures remaining persistent are high as widening Middle East conflict could elevate energy prices.
Daily Digest Market Movers: Pound Sterling weakens against US Dollar amid risk-off mood
- Pound Sterling faces selling pressure near 1.2200 as the US Dollar recovers strongly amid downbeat market sentiment.
- Further action in the Pound Sterling is largely dependent on the upcoming Bank of England's monetary policy meeting.
- Poor economic activity, weak household spending, soft labor demand, and upside risks to energy prices are supporting the BoE to leave rates steady for the second time in a row.
- UK firms are operating at lower capacity due to a bleak demand outlook, which has cut labor demand. Firms have also postponed their expansion plans due to higher borrowing costs.
- Consumer spending has also dropped significantly as higher price pressures have squeezed the real income of households.
- The UK housing sector is also facing the wrath of higher interest rates by the BoE. The central bank reported that mortgage approvals in September at 43,328 were the lowest since January.
- The ongoing cost of living crisis and upside risks to unemployment have forced households to postpone home demand.
- Over the interest rate guidance, the BoE is expected to keep doors open for further policy tightening as headline inflation is more than thrice the desired rate of 2%. Therefore, the BoE would keep interest rates at an elevated level for a longer period.
- BoE policymaker Swati Dhingra said in October that rate cuts would be early considered if the growth rate remains lower than expectations.
- The broader market mood remains downbeat as a ceasefire between Israel and Palestine is unlikely. Israel's Prime Minister Benjamin Netanyahu said that they will not agree to a cessation of fighting with Hamas.
- Meanwhile, the US Dollar retreats ahead of the monetary policy meeting by the Federal Reserve.
- Like the BoE, the Fed is also expected to keep interest rates unchanged in the range of 5.25%-5.50% on Wednesday.
- The US economy is upbeat on the grounds of labor market and consumer spending, and easing price pressures are supporting stable monetary policy. In contrast, the UK economy is struggling to bear the consequences of higher borrowing costs.
- Meanwhile, higher US long-term bond yields have tightened financial conditions.
- Apart from the Fed’s monetary policy, the US Dollar Index (DXY) will dance to the tunes of the private payrolls and the ISM Manufacturing PMI data for September, which will be published on Wednesday.
Technical Analysis: Pound Sterling declines toward 1.2100
Pound Sterling faces an intense sell-off near 1.2200 as the market mood dampens due to deepening Israel-Palestine conflicts. The GBP/USD pair remains on the backfoot as the 20-day and 50-day Exponential Moving Averages (EMAs) are sloping below the 200-day EMA. Momentum oscillators struggle for a firm footing.
BoE FAQs
What does the Bank of England do and how does it impact the Pound?
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).
How does the Bank of England’s monetary policy influence Sterling?
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.
What is Quantitative Easing (QE) and how does it affect the Pound?
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.
What is Quantitative tightening (QT) and how does it affect the 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.
Author
Sagar Dua
FXStreet
Sagar Dua is associated with the financial markets from his college days. Along with pursuing post-graduation in Commerce in 2014, he started his markets training with chart analysis.
