Pound Euro Rate Tanks: Forecast for GBP/EUR Exchange Rate to Head Lower Following Inflation Report

At the time of writing the pound to euro exchange rate (GBP/EUR) is seen trading 0.73 pct lower on a day-to-day basis having reached 12485. Ahead of today's Quarterly Inflation Report the rate was trading around 1.2603.

NB: All quotes here are from the wholesale market; your bank will charge a spread at their own disrection. An independent FX provider will however seek to come as close to the market rate as possible, they are able to deliver up to 5% more currency in some instances. Please find out more.

Pound hammered by Bank of England

The pound slid across the board after the Bank of England’s Quarterly Inflation Report sounded a more dovish tone than many had expected.

"The BOE slashed its outlook for wage inflation in half for the rest of this year and said that ultimately, wage inflation would be the key driver of the timing of the bank’s first lending rate hike," says Omer Esiner at Commonwealth Foreign Exchange.

Joe Manimbo at Western Union says, "the big fly in the ointment remained anaemic pay growth which fell 0.2 percent. Weak incomes are a sign of the still-limited reach of the nation’s economic recovery – something the BOE singled out as a big concern in its quarterly report on the economy."

For those holding out for stronger GBP exchange rates the remainder of August does not look promising.

Earlier: Forecasting a volatile mid-week - What to look out for

Those holding out for a stronger British pound will face a significant challenge on Wednesday when two event risks appear on the calendar.

"The Quarterly Inflation Report and labour market data for June dominate the UK calendar this week, and it’s hard to see the Inflation Report providing much reason for the market to bring forward its expectation of UK tightening in the current environment," say Lloyds Bank Research.

Lloyds do however concede that much of the weakness in GBP in the last few weeks has been down to long positioning and declining risk appetite rather than specific UK issues, so any reversal in the recent weakness in equities may allow a modest bounce.

"Nevertheless, we suspect that a lack of encouragement given to UK rate hawks in the QIR will maintain a mild GBP downside bias," forecast Lloyds.

Keep an eye on wages

Swissquote Research rightly point to the need to keep an eye on the growth in wages in the coming week's employment data.

Ipek Ozkardeskaya at Swissquote says:

"The quarterly Inflation Report is due on Wednesday; new macroeconomic forecasts should help updating BoE expectations, thus defining GBP-complex’ short-term direction. We expect no major change in current projections and believe that Carney will keep the highlight on “slack” in the economy, moderate recovery in exports and foreign investments.

"Despite supportive economic data, the slacking growth in wages suggests no immediate hurry for the first BoE rate hike.

"In this respect, we will be closely monitoring the progress in June earnings. The slow pick-up in wages is rather interesting given the rapid improvement in jobless rate. Governor Carney is likely to remain vague vis-à-vis the timing of the first rate hike. Markets price the first rate hike by Q4, 2014 – Q1, 2015."

The euro rally runs out of steam

The EUR bounce witnessed on Friday has widely been tipped as being reflective of investor positioning more than anything/

As long as declining risk appetite is not specifically EUR related, "the EUR may continue to benefit from any weakness in equities," say Lloyds Bank.

Because of the international involvement in Eurozone asset markets, there is still scope for capital flight from the Eurozone to undermine the EUR if we return to genuine concern about the stability of the region suggest Lloyds.

"But as long as this is not a significant factor (and the spreads over bunds suggests we are a long way from this returning to the dark days of 2012 further weakness in the EUR will struggle against the weight of short positioning. The easing of Ukraine-Russia tensions may also mean mild EUR support," say Lloyds.