Above: Bank of England, City of London. Picture: Geoff Henson. Licensing: CC 2.0. Source: Flickr.
Analyst says Bank of England outcome means Pound Sterling is fully ready to take advantage of U.S. Dollar weakness.
The unexpectedly 'hawkish' August Bank of England policy decision has strengthened the foundations of an extended recovery in the Pound to Dollar exchange rate (GBP/USD).
Thursday's decision revealed the Bank's Monetary Policy Committee (MPC) has a sizeable bloc that is resistant to cutting interest rates at a time when inflation is running towards 4.0%, which is twice the Bank's mandated target.
Votes had to be recast - this is the first time this has happened since the Bank's independence in 2998 - to deliver the 5-4 majority required to get the 25 basis point reduction through.
The prospect of further cuts is diminished greatly on evidence of the staunch resistance to Thursday's cut, with the statement revealing MPC members are concerned UK inflation is evolving in the wrong direction.
"The Bank of England has cut rates by a further 25 basis points to 4% but the statement hints that officials think the easing cycle is nearing its end," says James Smith, Developed Markets Economist at ING Bank.
The Bank raised its medium-term inflation forecasts, while Bank of England Governor Andrew Bailey said food inflation was a particular concern. He and his colleagues are wary that higher supermarket prices risk raising the perception that inflation is accelerating, which will encourage inflationary wage demands and price-setting behaviour at UK businesses.
Following the decision, short-term UK bond yields rose as investors reduced expectations on the scale of future cuts. Bond yield developments were accompanied by a broad rise in Pound Sterling.
The GBP/USD conversion rises to 1.3429 at the time of writing, extending a daily advance to 1.3428.
"For GBP/USD, this surprise hawkishness from the BoE cements the importance of the recent low at 1.3150 and suggests sterling can fully take advantage of dollar weakness into year-end. This could see GBP/USD pushing into the 1.36/38 area – assuming UK data does not deteriorate too dramatically in the last quarter," says Chris Turner, head of FX research at ING Bank.
The Pound fell against most peer currencies during July after investors ramped up expectations that the Bank would cut again in August, and follow up with two more reductions.
The tide on this trade has turned now, which could suggest a fresh impulse of Pound Sterling gains.
"A hawkish vote split with still no urgency to cut more deeply is helping the GBP. We see further GBP upside in the remainder of the year. Any dips in GBPUSD heading into key US data (particularly CPI) can be good opportunities to buy," says Jayati Bharadwaj, Head of FX Strategy at TD Securities.