Fundamental Forecast for British Pound: Neutral
British Pound Rudderless After Non-Event BOE Policy Announcement
June CPI May Disappoint, Trimming Rate Hike Bets and Sinking GBP
Monetary policy expectations remain firmly in the driver’s seat for the British Pound. Indeed, the correlation between GBPUSD and the UK 2-year Gilt yield – a reflection of investors’ near- to medium-term interest rate outlook – is now at a one-month high (0.42 on 20-day percent change studies). Last week’s BOE announcement proved to be a non-event, with Mark Carney and company leaving the setting of monetary policy unchanged and publishing no explanatory statement to lay out their reasoning going forward. That has left Sterling adrift, with key crosses EURUSD and EURGBP crosses left mired in narrow ranges.
The week ahead may mark a breaking point in the standstill as policy-shaping news flow returns. The spotlight will be on June’s CPI figures. The headline year-on-year inflation rate is expected to edge higher to 1.6 percent having slumped to a five-year low of 1.5 percent in the prior month. UK price-growth readings have proven increasingly disappointing over recent months.
Indeed, a Citigroup gauge measuring realized inflation data outcomes relative to consensus forecasts dropped to the lowest level in nearly two decades last month. That suggests analysts are underestimating the degree of deterioration in pricing trends and opening the door for a downside surprise. A lower-than-expected CPI print is likely to plant seeds of doubt in investors’ effervescent BOE interest rate hike expectations.
A distinctively hawkish shift in Governor Carney’s rhetoric in recent weeks has been taken at face value, pushing yields and the UK unit upward. Such complacency seems misplaced. The BOE’s policy-setting mechanism works on a “one man, one vote” basis: in order to raise rates, Mr. Carney would need to convince 4 more members of the 9-person MPC committee to vote with him to do so. UK economic data has increasingly fallen short of expectations since February, meaning gathering such a majority could prove difficult. An eye-catching miss on the benchmark inflation gauge threatens to put such concerns in such relief, forcing investors to pare back runaway tightening bets and sending Sterling broadly lower.
Elsewhere on the docket, Mr. Carney and Deputy Governor Andrew Bailey along with Donald Kohn and Martin Taylor of the FPC are set to testify before a Parliamentary committee on the latest Financial Stability Report. The key take-away from that document was that officials preferred macro-prudential tools rather than monetary policy as the vehicle to rein in the worryingly exuberant UK property market. That means the report’s contents offered little to help illuminate the near-term trajectory of interest rates, limiting its own impact and that of testimony on its findings on the British Pound.