Will above target inflation prompt the BoE to act?

With the UK economy recovery picking up and inflation overshooting at 2.1% could the BoE look towards tightening monetary policy? Whilst no policy change is expected on Thursday, a more hawkish tilt could boost GBP.

Brexit 1

When: Thursday 24th June 

The BoE comes under the spotlight amid the ongoing excitement following the Fed’s hawkish shift and change to it’s dot plot. 

The BoE is not expected to adjust its policy, keeping interest rates at the record low level of 0.1%. However, policy makers look to stay divided over the £875 billion bond buying programme as data improves and inflation tops the BoE’s 2% target level. 

A guide to the BoE

What the data says 

Since the last BoE monetary policy meeting, the UK continued to ease covid pandemic restrictions, reopening indoor hospitality on 17th May. Economic data has been encouraging with May’s Composite PMI at a record high.  

The labour market has fared better than expected so far, with unemployment dropping to 4.8% and almost 200,000 jobs created in May as businesses took on staff ahead of the reopening. 

Inflation jumped to 2.1%, above the BoE’s 2% target. Unlike the Fed the BoE has not said that it is willing accept an overshoot in inflation, potentially paving the way for a sooner move by the UK central bank. Although, like the Fed, the BoE also considers higher inflation to be transitory. 

The BoE has already upped in growth forecast for this year to 7.6% in an optimistic move. But it’s certainly not all rosy; retail sales unexpectedly declined and the government has delayed the final lifting of lockdown restrictions due to a sharp rise in delta variant covid cases. The latter is unlikely to have a large economic impact as it stands but adds an element of uncertainty into the central bank’s equation. 

Even so stronger growth, more jobs and higher inflation should tilt the BoE in a slightly more hawkish direction. 

Learn more about Sterling

More hawks amoung the doves?

BoE Chief Economist Andy Haldane voted to end the QE programme in August at £825 billion. He was alone. The markers will be watch carefully to see if any other policy makers join him.  

Interest rate futures prices point to the BoE hiking rates in 2022 to 0.25%. This is a significant turnaround from the start of the year when negative interest rates were a possibility. Gertjan Vlieghe typically a known dove said that he believed that rates would need to rise in late 2022. Most economists still see 2023 as the date to start rising rates. 

Should the BoE adopt a more hawkish stance and indicate a sooner move on rates or should more policy makers join Haldane calling for an end to QE then the Pound could strengthen boosting GBP/USD towards 1.40 and pressuring EUR/GBP. 

Where next for EUR/GBP? 

The GBP/EUR has been grinding lower since late April. The pair trades below its 6 week descending trendline and below its downward sloping 50 & 100 day ma.  

The RSI is in bearish territory suggesting more losses could be on the cards. A more hawkish BoE could see EUR/GBP break below 0.8545 a level which has have attracted dip buying in recent sessions. A break below this level could see sellers attach 0.85 round number and 0.8475 the April low. 

Should the BoE stick with the status quo, or even disappoint the market, EURGBP could push higher. Any recovery would need to break through 0.8615/30 resistance area which sees the confluence of the 50 & 100 sma and the descending trendline. It would take a move above 0.8650 to negate the near term downtrend.  

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