Pound Sterling faces a significant sell-off amid a gloomy market sentiment, driven by a decline in the appeal of risk-sensitive assets. Traders are eagerly anticipating the Bank of England’s (BoE) policy decision, scheduled for 12:00 GMT, with expectations leaning towards a steady stance for the fourth consecutive time. The focus will be on the outlook for interest rates, with most Monetary Policy Committee (MPC) members expected to support maintaining the status quo, given easing price pressures. BoE policymaker Swati Dhingra, expressing concerns about the consequences of overly tightening borrowing rates, may vote in favor of a rate cut.
Despite positive progress in inflation decreasing towards 2%, BoE Governor Andrew Bailey and other members have cautioned against premature speculation on rate cuts. UK’s headline inflation has substantially decreased from a multi-decade high of 11.1% to 4.0%, still double the desired rate of 2%. This forces policymakers to keep interest rates on a restrained trajectory.
While neutral guidance on interest rates could bolster the appeal of Pound Sterling, it may worsen the outlook for the UK’s economy, currently underperforming in consumer spending, economic activities, and the labor market. The absence of rate-cut signals may further dampen these economic triggers.
Simultaneously, the Pound Sterling is weighed down by a downbeat market sentiment, influenced by the Federal Reserve’s cautious approach to rate cuts in March. The lack of urgency from the Fed has led to a decline in the appeal of risk-perceived currencies, contributing to the sell-off in Pound Sterling.
In the context of the GBP/USD pair, the Federal Reserve Chair Jerome Powell’s remarks have supported the US Dollar (USD). Powell emphasized balanced risks to achieving full employment and 2% inflation, proving mildly supportive for the USD. The US Dollar Index (DXY) witnessed a V-shape recovery, reaching near 103.60, as Powell pushed back expectations of rate cuts in March.
Looking ahead, the US Institute of Supply Management (ISM) will report the Manufacturing PMI for January, adding potential volatility to the USD Index. Meanwhile, the Bank of England’s interest rate decision is expected to remain unchanged at 5.25%, with no indications from BoE policymakers about initiating rate cuts. The delicate balancing act between high inflation and a vulnerable domestic economy poses a challenge for policymakers.
BoE Governor Andrew Bailey and colleagues have emphasized the need to keep rates higher, given the highest price pressures in the UK economy among the Group of Seven economies. The UK economy is on the brink of a technical recession, having contracted by 0.1% in the third quarter of 2023, with a stagnant performance anticipated for the last quarter of the same year.
Technical Analysis: Pound Sterling falls to near Wednesday’s low
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Pound Sterling remains on the backfoot ahead of the BoE’s monetary policy decision but remains inside the last three weeks’ trading range of 1.2640-1.2775. The GBP/USD demonstrates a sharp volatility contraction on a broader timeframe, which may be the precursor of an eventual decisive break after the policy announcement by the BoE.
On the daily timeframe, a descending triangle chart pattern is in formation, which indicates indecisiveness with a slight negative bias. The downward-sloping trendline of the aforementioned chart pattern is placed from 28 December 2023 high at 1.2827 while the horizontal support is plotted from 21 December 2023 low at 1.2612. A decisive break through these boundaries would confirm a stronger directional move higher or lower – the BoE meeting may provide the catalyst.
The 14-period Relative Strength Index (RSI) oscillates in the 40.00-60.00 range, which indicates that investors await a potential trigger for further action.
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.
