British Pound: UniCredit De-briefer Forecasts BoE Interest Rate in May

Analysts at UniCredit in Milan are holding their ahead-of-consensus forecast for a May rate hike, after U.K CPI comes out in line with forecasts.

This forecast is important for pound sterling - should markets adopt a similar view they will have to re-price pound exchange rate levels in line with an earlier rate rise. In short, the pound will likely rise strongly in such a scenario.

“The rise was principally driven by a positive base effect from oil prices as prices fell less between October and November this year compared to last year.” Writes Daniel Vernazza, Lead U.K economist for the Italian Banking giant. 

Vernazza, added, however, that he did not see CPI creeping back above zero as having any impact on the BOE’s tightening time-line, as it was mostly in line with expectations:

“The uptick in inflation was mostly in line with MPC expectations and will do nothing to change the wait and see position of most committee members.”

The report goes on to state that Unicredit expects U.K inflation to reach 1.0% as soon as May 2016:

“We now do not expect inflation to reach 1.0% until May (BOE staff do not expect inflation to reach 1.0% until the second half of 2016). Nonetheless, we continue to expect the MPC to increase interest rates in May as spare capacity is close to zero.”

Despite inflation on a month-on-month basis beating expectations by coming out flat instead of in negative territory, this failed to stir the pound:

“The value of sterling was little changed on the news.”

Weak PPI bodes ill

According to Mike Paterson of forexlive.com, the lower-than-expected PPI in November (released at the same time as CPI), which came at -1.6% yoy (input) versus the -1.0% expected, as well as the downward revision in the previous month from 0.2% to 0.0%, offset any hunger for sterling:

“Softer PPI data, with lower oil price still the driver, outweighing the CPI coupled with general USD demand sees GBPUSD down to 1.5143 after failing above 1.5165 post-data.”

Given PPI is a forward indicator for CPI, the lower-than-expected wholesale prices recorded, are likely to weigh on headline inflation in coming months.

Nevertheless, UniCredit’s Vernazza is optimistic about the longer-term outlook for inflation as base effects are stripped out:

“Headline inflation will continue to climb from here as the negative base effect from the fall in oil and other commodity prices at the end of last year drops out of the year-on-year comparison.”

The big fall in oil of the last few weeks, however, (with the price of Brent down 15% in December) is set to hold back inflation gains, and this will mean that headline inflation will: “likely remain subdued for longer than previously expected.”

Further oil price shocks, mostly related to news about supply, could push back the BOE’s time-line further, and: “the MPC may soon communicate that the appropriate time horizon to return inflation to the 2.0% may be longer than the current judgement of about two years.” According to the UniCredit analyst.