Pound Sterling weakens amid deepening recession risks

  • Pound Sterling eyes more downside on jittery market mood.
  • A sudden policy-tightening pause by the BoE highlights a poor economic outlook.
  • Investors await the UK’s Q2 GDP data for further guidance.

The Pound Sterling (GBP) extends its five-day losing spell as investors foresee the United Kingdom economy shifting into a recession due to deteriorating labor market conditions and a poor demand outlook. The GBP/USD pair is expected to deliver more losses as a pause in the rate-tightening cycle by the Bank of England (BoE) would elevate consumer inflation expectations.

BoE’s unexpected pause in its historically aggressive rate cycle has not only highlighted policymakers’ concern about the UK’s economic turmoil, but it has also raised uncertainty over the inflation outlook. Britain’s energy prices have been propelled by the global oil rally and are set to make inflation hotter again. A situation of high inflation and weak labor demand may trigger a stagflation risk ahead.

Daily Digest Market Movers: Pound Sterling drops on strong US Dollar

  • Pound Sterling faces the wrath of a risk-off market mood as investors remain worried about the global economy due to deepening risks of higher interest rates.
  • The market mood remains jittery as investors see the global economy struggling to absorb the consequences of restrictive monetary policy by central bankers.
  • The consequences of higher interest rates on the UK economy are impacting labor market conditions and economic activities.
  • UK employers laid off workers in the past two months as firms shifted focus to controlling costs due to the deteriorating demand environment.
  • Though demand for labor has fallen, wage growth remains strong enough that the inflation outlook remains stubborn.
  • Like the contracting UK Manufacturing PMI, the UK Services PMI slipped below the 50.0 threshold for the second time in a row. This indicates that households’ real income is being squeezed due to higher inflation and a recovery in gasoline prices.
  • Despite strong wage growth and a stubborn consumer inflation outlook, the BoE decided to pause the policy-tightening spell last week. This indicates that BoE policymakers are more worried about upside risks to economic turmoil rather than persistent inflation.
  • The Pound Sterling is on investors’ selling list due to expectations that the BoE is done hiking interest rates. Contrary to that, the US Dollar has remained resilient after a pause in the policy-tightening spell by the Federal Reserve (Fed).
  • A pause in Fed tightening is due to falling inflation and strong economic prospects. In the US economy, labor demand is strong, consumer spending is robust, and wage growth is steady.
  • Going forward, investors will focus on the UK’s April-June quarter Gross Domestic Product (GDP) data, which will be published on Friday. Quarterly and annualized GDP data are foreseen to expand at a steady pace of 0.2% and 0.4%, respectively.
  • The US Dollar Index (DXY) trades near a fresh 10-month high around 106.30 as Fed policymakers support further policy-tightening to ensure price stability.
  • As the US economy has been performing well in comparison with other G7 economies, inflationary pressures in excess of the desired rate of 2% will not fade easily. This has forced Fed policymakers to maintain a hawkish stance on the interest rate outlook.
  • The US Dollar struggles to extend upside despite upbeat Durable Goods Orders data for August. New Orders grew at a nominal pace of 0.2% while investors anticipated a contraction of 0.5%. In July, the economic data contracted significantly by 5.6%.

Technical Analysis: Pound Sterling trades near six-month low

Pound Sterling reports a bearish closing for the fifth time in a row. The GBP/USD pair continued its losing spell on Wednesday after slipping below the crucial support of 1.2152. The Cable refreshes a six-month low at 1.2135 and is expected to extend the downside toward the round-level support of 1.2100. A bear cross, represented by the 20 and 200-day Exponential Moving Averages (EMAs), warrants more weakness ahead. Momentum oscillators have reached oversold levels.

Pound Sterling FAQs

What is the Pound Sterling?

The Pound Sterling (GBP) is the oldest currency in the world (886 AD) and the official currency of the United Kingdom. It is the fourth most traded unit for foreign exchange (FX) in the world, accounting for 12% of all transactions, averaging $630 billion a day, according to 2022 data.
Its key trading pairs are GBP/USD, aka ‘Cable’, which accounts for 11% of FX, GBP/JPY, or the ‘Dragon’ as it is known by traders (3%), and EUR/GBP (2%). The Pound Sterling is issued by the Bank of England (BoE).

How do the decisions of the Bank of England impact on the Pound Sterling?

The single most important factor influencing the value of the Pound Sterling is monetary policy decided by the Bank of England. The BoE bases its decisions on whether it has achieved its primary goal of “price stability” – a steady inflation rate of around 2%. Its primary tool for achieving this is the adjustment of interest rates.
When inflation is too high, the BoE will try to rein it in by raising interest rates, making it more expensive for people and businesses to access credit. This is generally positive for GBP, as higher interest rates make the UK a more attractive place for global investors to park their money.
When inflation falls too low it is a sign economic growth is slowing. In this scenario, the BoE will consider lowering interest rates to cheapen credit so businesses will borrow more to invest in growth-generating projects.

How does economic data influence the value of the Pound?

Data releases gauge the health of the economy and can impact the value of the Pound Sterling. Indicators such as GDP, Manufacturing and Services PMIs, and employment can all influence the direction of the GBP.
A strong economy is good for Sterling. Not only does it attract more foreign investment but it may encourage the BoE to put up interest rates, which will directly strengthen GBP. Otherwise, if economic data is weak, the Pound Sterling is likely to fall.

How does the Trade Balance impact the Pound?

Another significant data release for the Pound Sterling is the Trade Balance. This indicator measures the difference between what a country earns from its exports and what it spends on imports over a given period.
If a country produces highly sought-after exports, its currency will benefit purely from the extra demand created from foreign buyers seeking to purchase these goods. Therefore, a positive net Trade Balance strengthens a currency and vice versa for a negative balance.

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