Pound bounces back as BoE maintains policy

Talking Points

  • British Pound: BoE Maintains Policy
  • Euro: ECB Says Rates 'Appropriate'
  • Japanese Yen: Gains Ground As Risk Falters
  • U.S. Dollar: Risk To Dictate Price Action

The British Pound bounced back from a low of 1.5732 during the European trade as the Bank of England maintained its current policy in December, and the GBP/USD may continue to pare the overnight decline throughout the North American session as investors scale back speculation for further easing. As expected, the BoE refrained from releasing a policy statement after holding the benchmark interest rate at 0.50% and maintaining its asset purchases at GBP 200B, and the central bank is likely to retain its wait-and-see approach throughout the beginning of the following year as it aims to balance the risks for the region. As the MPC is scheduled to release its policy meeting minutes of December 22, comments from the central bank are likely to play an increased role in driving price action for the British Pound going into the 2011, but there could be a growing split within the BoE as the economic outlook remains clouded with uncertainties.

We anticipate to see another three-way split within the MPC as board member Andrew Sentance pushes to gradually normalize monetary policy while Adam Posen sees scope to expand quantitative easing further, and the central bank is likely to maintain a cautious outlook for the region as the new coalition withdraws fiscal support. As U.K. policy makers expect the tough austerity measures to bear down on the recovery, the BoE may look to support the real economy throughout the first-half of 2011, but the ongoing stickiness in price growth could lead the MPC to hold a hawkish outlook for future policy as the central anticipates inflation to hold above the 2% target throughout the following year. As a result, if the BoE talks down speculation for future easing, the GBP/USD should continue to trend higher going into the end of the year, and the exchange rate may look to retrace the sharp decline from the previous month as interest rate expectations gather pace.

The Euro slipped to a low of 1.3194 during the overnight trade as the European Central Bank maintained a cautious outlook for the region, and fears surrounding the debt crisis may continue to drag on the exchange rate as policy makers struggle to restore investor confidence. The ECB reiterated that monetary policy remains “appropriate” in its monthly report, and said inflation expectations remain “firmly anchored” as it maintains its one and only mandate to ensure price stability. At the same time, the central bank noted that the uncertainties surrounding the economic outlook remain “elevated” as the governments operating the single-currency struggle to manage their public finances, and it seems as though the ECB is looking to push its primary mandate to the backburner as the Governing Council aims to encourage a sustainable recovery. As the central bank pledges to delay its exit strategy, policy makers may see scope to take additional steps to stimulate growth over the coming months, and the euro is likely to face increased headwinds in the following year as market participants speculate Portugal and Spain to share Ireland’s ill fate.

The greenback advanced against most of its major counterparts overnight, with the USD/JPY paring the decline to 83.65, and the U.S. dollar may continue to appreciate throughout the day as the rise in risk appetite tapers offs. As the economic docket remains fairly light for Thursday, market sentiment is likely to dictate price action going into the North American trade, but the fundamental developments from the world’s largest economy could spark increased volatility in the major currencies as investors weigh the outlook for future growth. Wholesale inventories in the U.S. are projected to increase another 0.8% in October after rising 1.5% in the month prior, but there could be little reaction to the data as risk trends continue to dictate price action in the foreign exchange market.

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