Fed tapering intentions muddy British pound outlook

Bank of England Governor Mark Carney has a problem. He wants to talk interest rates into staying at low levels, but is doing so against a backdrop of the U.S. Federal Reserve quantitative easing tapering intentions. If he really is committed to this course of action, it may mean having to take actions that will be bearish for GBP/USD (FOREX:GBPUSD).   

Mark Carney's big idea for the Bank of England's monetary policy is to offer forward guidance on interest rates, giving businesses and households an assurance that the cost of money will remain low for years. This is designed to give those sectors more confidence to invest and therefore stimulate economic activity.

But it hasn't worked so far. U.K. government bond yields have instead taken their cue from U.S. Treasuries, which have been rising on the prospect of the U.S. Federal Reserve slowly withdrawing its $85 billion a month bond buying program. 

GBP/USD support zones around 1.5400. Resistance clustered around 1.5700

UK monetary policy finely balanced

The U.K. economy has had a few good months and if the recovery is sustainable then it may be able to absorb higher 'real' interest rates and therefore no intervention may be needed from the Bank of England. For GBP/USD that's a neutral to bullish scenario.

On the other hand, if the recovery turns out to be little more than a mirage, and the Fed does go ahead with tapering, then the Bank of England will have to do more than just talking, it will have to act. Under those circumstances it is likely to unleash more quantitative easing to drive down bond yields, which influences the cost of credit to the rest of the economy.

The next few months will be crucial for GBP/USD as it becomes evident whether or not the U.K.'s economic recovery is sustained and ditto the U.S. one, which will dictate if Fed tapering goes ahead or not.

The other issue for GBP/USD is Carney himself. He's new and the forex markets are yet to get used to his style and while they're figuring him out a certain amount of uncertainty will linger.

About the Author
Justin Pugsley

Justin Pugsley is the forex and gold markets analyst for New Zealand-based trading platform provider MahiFX. He is a keen student of markets, economics and history. Prior to working with MahiFX, Justin worked for a number of leading media organisations such as Thomson-Reuters and Dow Jones/Wall Street Journal.

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