Comment: Cable testing 1.30 ahead of key BoE inflation report

Digital Look WebFG News | 10 May, 2017 17:19 | | |

bank of england

By Ipek Ozkardeskaya

The Bank of England (BoE) will deliver its latest monetary policy decision and reveal the quarterly inflation report (QIR) on Thursday, following its last MPC meeting before the snap general election on 8 June.

The pound appreciated by nearly 3.80% against the US dollar since PM Theresa May's announcement on 18 April that the UK will hold an early general election - and the BoE is expected to avoid voicing a view on the matter.

The main focus will be on the Quarterly Inflation Report. Given the rising inflationary pressures, mainly caused by a softer pound posterior to the Brexit referendum, the BoE is expected to revise its inflation forecast higher.

Meanwhile, the bank will likely maintain a cautious outlook regarding growth and risks to growth.

Rising inflation unlikely to increase population of MPC’s hawkish camp

The UK’s headline inflation rose to 2.3% year-on-year in March, although the core inflation eased from 2.0% to 1.8% over the same period.

Rising inflation has been a major concern and one of the main reasons that has pushed Kristen Forbes to vote in favour of an interest rate hike in the MPC’s previous meeting.

The question is, how many of the remaining MPC members would be inclined to shift towards the hawkish camp.

In our view, Kristen Forbes will not be joined by another member, provided that the core inflation printed an encouraging picture in March release and the recent fall in oil prices hint at a cool down in the headline figure as well.

On the other hand, the worries regarding a softer economic growth are likely to be a concern for the majority of the MPC members.

According to the latest data, the UK’s GDP growth slowed to 0.3% in the first quarter, weaker than 0.4% expected by analysts and revised down from 0.7% printed previously.

The March retail sales plunged by 1.5% month-on-month, jobless claims increased by 25.5K. Although the latest PMI figures printed a solid sector sentiment, the latter could be fragile and could deteriorate rapidly depending on the Brexit developments.

In these circumstances, the BoE will likely opt for an accommodative policy stance regarding the future of its monetary policy, given that the Brexit remains a major risk for the economy and the negotiations, as they stand today, do not hint at a smooth divorce between the UK and its leading trade partner, the European Union.

The market assesses less than 25% probability for an interest rate hike in 2017, and less than 62% chances for a rate hike in 2018.

Cable and the 1.30 level

The major catalyst for the present pound strength has been the announcement of the early general election. The market has fully priced in a significant majority for the Tories, which could eventually allow the party to ignore the hard-Brexiteers in order to facilitate and soften the Brexit negotiations.

The 1.30 level has acted as solid resistance to the rally that followed the election announcement. Is it time for the pound to break the $1.30 resistance?

The above reasoning may not be sufficient to send the pound into a medium term consolidation zone against the US dollar.

From a macroeconomic perspective, we could state that if the Bank of England maintains an accommodative stance as widely expected, the divergence between the Federal Reserve (Fed) and the BoE policy outlook should be in favour of a stronger US dollar against the pound.

In this context, Cable would be forced to stay in the negative trend against the US dollar. From technical perspective, this would suggest a solid resistance at 1.3044 level, the major 38.2% retracement on post-Brexit sell-off.

Ipek Ozkardeskaya is a senior market analyst at London Capital Group

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