The Bank of England look to raise rates once again on Thursday, but size will be key.
Bank of England meeting?
The Bank of England (BoE) will provide their latest monetary policy announcement at midday, on Thursday 22 September 2022.
Tune in to IGTV’s live BoE announcement and analysis at 11:55am (BST) on Thursday in the IG platform.
Inflation concerns could be allayed by Truss energy plan
Inflation remains the key concern for central banks around the world, and the BoE is no exception. Cross border friction caused by Brexit adds just another driver of higher prices in a world where inflation continues to soar. Energy has been front and centre within this crisis, with the Russia-Ukraine war sparking lower European imports of energy by land, with that desperate push for alternate product driving up prices globally.
Thankfully, the new UK Prime Minister (PM) Liz Truss has recognized the importance of controlling costs for businesses and households, with her plan to cap prices having a significant impact upon inflation expectations. While Goldman Sachs led the way in claiming consumer price index (CPI) will top out around 22% next year, the pledge to limit the rise in energy prices does also cap how stretched headline inflation will go. The image below highlights how this cap looks likely to prevent another sharp move higher as energy prices jump once again in October.
However, it is worthwhile noting that despite the PM Liz Truss taking action to limit the most volatile element of UK inflation, there are plenty other areas of the economy that have seen prices gain traction over the past year. The breakdown below from the Office for National Statistics (ONS) highlights exactly that, with prices rising across the spectrum. The dominant areas are undoubtedly housing/household spending, transport and food/beverages. Energy certainly plays a major role in these areas, but the BoE will want to maintain upward pressure on rates to curb the rise in prices before high inflation becomes circular.
From a jobs perspective, we are yet to see any major upturn in unemployment, with the current rate of 3.6% coming in some 0.4% below the pre-Covid-19 pandemic levels. The rise in inactivity rate does provide some concern, but there is a good chance that rising prices will ultimately push people back into work and reverse this trend.
Will we see the bank hike?
A rate hike from the BoE looks a foregone conclusion this week, with markets pricing a 100% chance of a rate rise. However, the key thing to note is the fact that markets are expecting a 75-basis point (bp) hike, pricing a 77% chance of an oversized hike. That would represent the biggest rate rise in 33 years at the Threadneedle street. Conversely, markets are signalling a 23% chance of a 50-bp rate rise. The risk here is that perhaps markets are overpricing a 75bp move, with short-term volatility potentially greater in the event of a 50bp move given these expectations (GBP weakness).
Where now for the pound?
The pound looks to be the chief area of concern in the immediate aftermath of this rate decision, with a 50bp move potentially weakening GBP/USD, and 75bp move strengthening GBP/JPY. It makes sense to target those currencies for countries which are hiking less or more given the action taken by Bailey & co.
GBP/JPY looks a good pair to target in the event that the BoE hike by 75bp, with the Bank of Japan (BoJ) continuing to keep rates depressed for now. The chart below highlights how were main within a bullish uptrend, with additional gains expected unless the price falls back below ¥159.44.
GBP/USD remains under pressure as traders continue to favour the dollar for its haven and monetary policy aspects. With that in mind, an undersized 50bp move could provide another leg lower to continue this bearish pattern. This negative outlook holds unless the price rises through the $1.1738 swing high established earlier in the month.