Bottom Drops out of GBP USD Exchange Rate as BoE Hike Rates in Likely One-off

Bottom Drops out of GBP USD Exchange Rate as BoE Hike Rates in Likely One-off

Policymakers at the Bank of England (BoE) have today voted to hike interest rates for the first time in a decade.

Benchmark borrowing costs have risen to 0.5% after languishing at a 323-year low since the UK voted to leave the European Union.

The GBP USD exchange rate has weakened -1% to 1.3118, however, after the meeting minutes and Inflation Report proved more cautious than markets had been hoping.

GBP USD Exchange Rate Tumbles as BoE Signals Further Rate Hikes are Unlikely

Sterling quickly tumbled following the announcement of the policy decisions, as those reading the meeting minutes and Inflation Report discovered that the Monetary Policy Committee (MPC) remained cautious over the need for further policy normalisation.

The previous meeting minutes had included a line stating that financial markets were underestimating the pace of interest rate normalisation – which is what set a fire under rate hike hopes for today’s meeting.

But the latest minutes contain no such statement, suggesting the Bank no longer sees itself tightening rates more quickly than has been forecast.

The Inflation Report projects that interest rates will have risen to 1.0% by the end of 2020, meaning there are likely to be only two more hikes over the coming three years.

‘Overall, there is a little less monetary stimulus in these projections than assumed in August,’ the Report notes.

Meanwhile, the minutes of the latest meeting noted that ‘All members agreed that any future increases in Bank Rate would be expected to be at a gradual pace and to a limited extent.’

Today’s adjustment therefore falls into the category of ‘dovish hike’ – where policy is tightened but without the confidence that improving economic conditions in the near-term will warrant continued normalisation of interest rates towards those needed to support a healthy and balanced economy.

Pound Weakness Enables US Dollar Rise after FOMC Meeting Disappoints

Prior to the BoE announcements, the GBP USD exchange rate had been able to hold opening levels – despite weakening in anticipation – thanks to the latest US policy developments.

The US Dollar is today also contending with a disappointing monetary policy meeting, after the Federal Open Market Committee (FOMC) failed to deliver clear indicators of an incoming rate hike that markets were hoping to see.

The Federal Reserve was limited in terms of how confident it could sound over the economy given that it did not hike rates this time around, but even so markets had expected a much firmer signal that borrowing costs were on track to rise next month.

This left markets with little incentive to buy into the US Dollar, but at the same time there was nothing in the minutes to damage the odds of a December hike.

As Barclays Research explained; ‘Altogether, we see little here to suggest committee members are second guessing a rate increase in December.

The Fed has spent a good deal of time and ink in recent months preparing markets for balance sheet run-off and further rate hikes despite downside surprises to inflation. We see nothing in the November statement that suggests this view has changed.’

GBP USD Exchange Rate Forecast; Will Onslaught of US Data Hammer Pound Lower?

The Pound could find support tomorrow if the Markit services PMI for October follows the pattern of the month’s manufacturing and construction indices and rises above-forecast.

This would indicate that the UK economy started the fourth quarter on strong form.

However, the upside potential for Sterling looks limited, given the amount of chances US data will have to support the US Dollar.

The highly-important non-farm payrolls report and unemployment rate figures for October will show whether conditions in the labour market remain firm or have softened.

Weakness here might knock confidence in a December rate hike, but there would have to be an exceptionally dire result to cause notable damage to hike odds.

Also due out tomorrow is the ISM non-manufacturing/services composite for October.

Josh Ferry Woodard

After leaving university in 2011 Josh briefly worked as a currency analyst in the South West of Cornwall. Josh continued monitoring the currency markets and publishing exchange rate analysis after moving to London in 2012, with a particular focus on the impact of economic and political stimuli on forex. Josh was a regular contributor to The Telegraph’s weekly currency feature for several years.

Contact Josh Ferry Woodard