The Pound Sterling (GBP) recovers to 1.2640 against the US Dollar in Thursday’s early New York session. More broadly, the GBP/USD pair struggles for direction as investors wait for fresh cues about when the Bank of England (BoE) will begin reducing interest rates. The United Kingdom’s inflation has come down significantly, but BoE policymakers are expected to adopt a cautious approach as early rate cuts could revamp price pressures again.
Investors expect that the BoE will start cutting rates from the June meeting. The expectations have been prompted by sharply easing inflation in February. Also, no BoE policymakers see the need for more rate hikes, indicating that the current level of interest rates is sufficiently restrictive. Generally, the Pound Sterling weakens when investors expect the BoE will start reducing borrowing rates early.
Meanwhile, the UK Office for National Statistics (ONS), released on Thursday, revised its Q4 2023 Gross Domestic Product (GDP) estimates, confirming that the economy contracted by 0.3% in the October-December period.
The US Dollar surrenders gains ahead of the United States core Personal Consumption Expenditure (PCE) Price Index data for February, which will be published on Friday. The measure, which gauges underlying inflation, is expected to have increased steadily by 2.8% annually.
The Pound Sterling trades back and forth in a narrow range around 1.2600. The GBP/USD pair seems vulnerable around 1.2600 as the 20-day Exponential Moving Average (EMA) at 1.2690 has turned down. The asset is slowly declining to the 200-day EMA, which trades around 1.2564. On the downside, the horizontal support from December 8 low at 1.2500 would provide cushion to the Pound Sterling bulls.
The 14-period Relative Strength Index (RSI) slips to near 40.00. A bearish momentum would trigger if the RSI dips below this level.
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).
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.
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.
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.
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