Pound to Find Further Gains v Euro as Bank of England Shakes Interest Rate Expectations

Modified: Friday, 16 June 2017 11:35 BST

Pound to Euro Exchange Rate: 1.1446, up 0.69%
Euro to Pound Sterling Rate: 0.8737

Pound Sterling outperformed major rivals on Thursday, June 15 after the Bank of England raised eyebrows after it was revealed that their Monetary Policy Committee voted 5-3 to keep rates unchanged.

There were expectations for the composition of the vote split to remain at 7-1, or even 8-0 owing to recent political turmoil.

However, MPC members Kristin Forbes, Ian McCafferty and Michael Saunders voted against the proposition, preferring to increase Bank Rate by 25 basis points. All are external members and not actual employees of the Bank, which we find to be an interesting development

“The Bank of England just got interesting again. Sterling jumped and the FTSE 100 took another leg lower after a significant hawkish surprise from the Bank of England that’s rekindled fond memories of when interest rates could go up or down and changed more than once a decade,” says Neil Wilson, Senior Market Analyst at ETX Capital.

The vote suggests the UK could face an interest rate rise sooner than many had expected as the Bank is clearly not going to let runaway inflation go unchecked.

A rate hike is positive for Sterling in that higher interest rates attract foreign capital inflows.

It is in the Bank's interest that Sterling recovers some of its losses as this would push imported inflation lower as the cost of imports ease again.

The Pound to Euro exchange rate jumped 0.73% to reach 1.4450, having been as low as 1.1353 earlier.

The Pound to Dollar exchange rate jumped to record a gain of 0.20% to reach 1.2775, having been as low as 1.2690 earlier in the day.

"We are now on a much more neutral footing toward sterling. The UK’s macro landscape remains rather mixed and political uncertainty remains a persistent concern. This is not without its potential silver linings, however, as the Brexit process now appears more open to interpretation. If confirmed, this reduces an important headwind for Sterling," says Richard Kelly, Head of Global Strategy at TD Securities in London.

The recovery in the Pound against the Euro conversion's value fits nicely with our mid-week forecast that suggested GBP/EUR was basing and a short-term recovery might transpire.

Indeed, recoveries are being seen against all Sterling's major G10 competitors as the daily performance comparisons show:

Reactions

Philip Shaw at Capital Economics:

"Our own view is that we struggle to see a sound rationale for tightening policy given that we cannot be sure the consumer downturn is transitory, that weakness is not confined to households (construction currently looks fragile) and wage growth is falling. We continue to see rates being held throughout this year and next, but our reading of the minutes is that there is a material risk of the MPC raising the Bank rate by 0.25% in August."

Alan Wilson, senior investment manager of active fixed income at State Street Global Advisors:

"The surprise emergence of Michael Saunders and Ian McCafferty as dissenting voters puts this speculation to rest; hawkish sentiment on the MPC has spread.

"Recently, MPC signalling has been on the hawkish side to encourage the market to dampen inflation pressures on its behalf. Nonetheless, this messaging has been completely ignored, with next to no rate hikes priced over the next year. As such, hawkish sentiment on the committee has advanced; given the precarious outlook for the domestic economy, the MPC cannot allow inflation to become entrenched."

Paul Hollingsworth at Capital Economics:

"The consensus had expected arch-hawk Kristin Forbes to maintain her rate hike call, but the addition of Michael Saunders and Ian McCafferty came as a surprise. The more hawkish tone of the MPC appears to reflect some concern about inflation – which has accelerated faster than it expected over recent months and is now forecast to exceed 3% this year – as well as the strength of employment that is continuing to erode slack in the labour market."

"Admittedly, Kristin Forbes’ term finishes at the end of the month, potentially tipping the balance back towards the doves somewhat. And despite only three mentions of the election in the minutes, some members will surely want to wait to see how the current political situation is ultimately resolved and whether or not uncertainty has an impact on the economy. These factors suggest that a rate hike within a matter of months remains unlikely.

"But with the economy having weathered political uncertainty relatively well in the recent past, and signs emerging that the Government may be about to ease back on austerity, today’s decision and minutes support our view that the first hike in interest rates will come much sooner than the April 2020 date implied by markets ahead of today’s meeting."

Michael Hewson at CMC Markets:

"Maybe overthinking this but given Forbes is leaving - is this a tactical move to help support sterling and keep a lid on CPI?"

Jasper Lawler at London Capital Group:

"Question is - how much is Sterling Brexit drop related to #BOE monetary policy outlook? 3% inflation won't last long if the pound rallies."

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