Expectations for a rate hike surged in the UK following the Fed’s surprising hawkish turn. Nevertheless, the Bank of England (BoE) will probably signal that some patience is still required when it announces its policy decision on Thursday at 11:00 GMT, likely leaving the pound unable to recoup its recent losses against the dollar.
Rate expectations heat up
Back in February, the Bank of England had warned banks to prepare their systems for negative interest rates, which could open the path for more lending as the pandemic had been harshly weighing on business operations and consumption, although those never materialized after all. Four months later, the monetary spectrum has made a 180-degree change, switching from a dovish mindset of keeping stimulus as long as it takes to putting the wind in the sails of a tightening plan thanks to the impressive speed of vaccination rollouts.
The Bank of Canada was the first to signal higher interest rates in the second half of 2022 but the Fed’s famous dot plot, which elevated the median rate projection to two rate hikes from none last week, was the one to flag the end of the stimulus phase and hence fuel confidence that other key central banks could follow suit.
Particularly, interest rate futures are currently pricing a probability of around 70% for a rate hike in the second half of 2022 in the UK, while the narrowing spread between the 5 and 30-year British bond yields is another confirmation that rate increases could be on the cards soon.
No hawkish actions expected
Thursday’s policy meeting, however, will not involve fresh economic projections or a press conference to discuss economic developments. Hence, policymakers will have an excuse to ignore calls for monetary tightening for now and preserve the status quo until August’s gathering. Perhaps, policymakers could get extra time to carefully monitor the acceleration in CPI inflation figures, which popped above forecasts and peaked slightly above the central bank’s 2.0% target, and see how sustainable the pickup is before messaging any monetary tightening ideas.
Besides, a premature stimulus reduction could wreck the government’s and central bank’s combined efforts to feed the economic recovery, especially if the ramping infection cases of the Indian variant prove to be a new drama. Note that the government’s extended furlough scheme, which has been subsidizing employment costs for months now, is expiring in September.
Eyes on hawkish shifts
Still, the decision of standing pat on policy may not be straightforward and could face an intense debate as more policymakers seem to be leaning to the tightening side. BoE chief economist Andy Haldane, who will hold his last meeting as an MPC member before his term expires later this month, has recently highlighted that the housing market is “on fire” and may propel inflationary pressures while arguing that the UK economy is close to pre-pandemic levels. Well, Haldane is a hawkish policymaker, and his optimistic remarks are not a big surprise. However, the same cannot be said about the dovish Gertjan Vlieghe, who admitted that borrowing costs will need to rise in late 2022 if the economy grows as expected.
Therefore, investors will closely study the policy statement for clues on whether the discussions around higher interest rates and bond tapering have become more balanced within the BoE following the Fed’s hawkish turn although no actions are expected to take place.
GBP/USD levels to watch
Should the report reveal an increased pressure for monetary tightening as early as in the second half of 2022, pointing to a rate hike earlier than the Fed as well, the pound could get fresh buying traction. Yet, whether the BoE rate statement can be hawkish enough to boost pound/dollar above the broken long-term trendline seen at 1.4100 and eliminate fears of a down-trending market remains to be seen. Stronger-than-expected flash Markit PMI readings could assist any bullish potential on Wednesday at 06:00 GMT.
Otherwise, if policymakers talk down the scenario of a rate hike, pound/dollar could slump to meet April’s low of 1.3668 and the 200-day simple moving average (SMA) slightly beneath at 1.3613. Any break lower from here could spark a new bearish correction towards 1.3500.
