Finance

Pound Sterling tumbles as BoE seems done with hiking interest rates

10/25/2023
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  • Pound Sterling faces a sell-off as UK business activity contracts and labor hiring freezes.
  • UK employers shed jobs for the third time in a row as new orders drop.
  • Investors see the BoE keeping interest rates unchanged as the UK economy is exposed to a mild recession.

The Pound Sterling (GBP) delivers a breakdown as expectations of a mild recession in the United Kingdom economy have escalated. The GBP/USD pair falls back as higher borrowing costs by the Bank of England (BoE), a poor demand outlook, and deepening geopolitical tensions weigh.

The UK’s labor market appears to be facing the consequences of slowing business activity, with employers shedding jobs for the third time in a row. Going forward, investors will focus on the interest rate decision by the BoE, which will be announced next week. The BoE is expected to keep interest rates unchanged at 5.25% for the second consecutive time, and policymakers are expected to downgrade the growth outlook.

Daily Digest Market Movers: Pound Sterling falls further as US Dollar strengthens

  • Pound Sterling extends downside to near 1.2100 as the UK economy is expected to fall into a mild recession due to declining business activity in a deteriorating demand environment.
  • S&P Global reported on Tuesday that the Manufacturing PMI was at 45.2, better than expectations of 45.0 and the former reading of 44.3. However, a figure below the 50.0 threshold signals a  contraction in factory activity. UK manufacturing activity has been contracting for more than a year, according to the PMI data.
  • This is the longest period of decline in the country’s factory activity since 2008-2009 as firms are cutting on inventory due to a slowdown in new orders. 
  • UK firms have frozen hiring amid lower levels of new business. S&P Global reported that employers remained worried about the UK economic outlook and constraints on spending due to higher borrowing costs.
  • The Services PMI came in at 49.2 in October, below the expected 49.5, and September’s release of 49.3. The Services PMI, which gauges activity among service providers, contracted for the third month in a row.
  • The effect of the hiring freeze by UK employers is clearly visible in the labor market data reported by the UK Office for National Statistics (ONS) on Tuesday.
  • The ONS reported that employment levels fell for the third time in a row. Employers shed 82K jobs in the June-August period, a number that is significantly lower than expectations of 198K lay-offs. In the three months to July period, employment levels were reduced by 207K employees. 
  • The UK’s Unemployment Rate dropped to 4.2% in the quarter to August against expectations and the former reading of 4.3%.
  • Economic data released in October suggest that the UK economy is struggling with high-interest rates from the Bank of England (BoE). 
  • A slowdown in business activity, labor demand, and weak consumer spending will likely prompt the BoE to keep interest rates unchanged at 5.25% in its monetary policy meeting scheduled for November 2.
  • The risk appetite of the market participants remained weak as Israeli troops were preparing to enter Gaza for the ground assault.
  • Meanwhile, the US Dollar recovered on Tuesday after finding support near 105.40. Investors rushed for the US Dollar after upbeat PMI reading for October.
  • This week, investors will watch for the Q3 Gross Domestic Product (GDP) data, which will be published on Thursday. Economists anticipate the growth rate doubling to 4.2% against the former reading of 2.1% on an annualized basis.
  • A strong growth rate in the July-September could elevate chances of further policy-tightening by the Federal Reserve (Fed) in its monetary policy meeting scheduled for November 1.

Technical Analysis: Pound Sterling extends downside to near 1.2100

Pound Sterling faced an intense sell-off after a short-lived pullback to near the round-level resistance of 1.2300. The GBP/USD pair failed to sustain above the 20-day Exponential Moving Average (EMA), which indicates that the short-term trend is bearish. The broader Cable outlook is extremely bearish as the 50-day and 200-day EMAs are downward-sloping. Further downside in the GBP/USD pair could drag it towards the psychological support of 1.2000.

BoE FAQs

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.

Source: https://www.fxstreet.com/news/pound-sterling-remains-weak-on-vulnerable-demand-outlook-202310250725