Sterling awaits statement

This week’s outlook for sterling begins and ends with tomorrow’s BOE monetary policy “decision” and statement. The “decision” is in quotation marks because there’s unlikely to be any deliberation at all: the Bank of England (BoE) will almost certainly leave interest rates unchanged at 0.50% and the Asset Purchase Facility at £375B per year.

However, whether and how the central bank chooses to tweak its statement could have a big effect on traders’ interest rate expectations.

About a month ago, BoE Governor Carney hinted that the central bank may raise interest rates “sooner than markets currently expect,” fueling a firestorm of rate hike speculation and driving the GBP/USD to a 6-year high. Though he later walked back the comments slightly, the market is now open to the possibility of a BOE rate hike later this year, and the BoE’s statement will be interpreted through that lens.
 


The key factor will be the BOE’s view on wage growth and inflation. Despite solid growth in the overall number of jobs, UK workers have not seen a commensurate increase in wages, with salary growth trailing even the country’s subdued inflation rate. If the central bank continues to express concern with these two indicators, traders may sell the pound on a decreased likelihood of a rate hike in 2014. On the other hand, if the statement suggests that inflation and wage growth are expected to increase imminently, the market may bring forward its expectation of the first interest rate hike to Q4 of this year, and the pound may rise as a result.

Beyond the first rate hike, traders will also watch the overall tone of the statement for any hints about the pace of subsequent interest rate rises moving through 2015.
 

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