The problem that the BoE has, alongside many other central banks, is how to control inflation without slowing growth. Inflation is now expected to move above double digits this year. Future energy prices are set to gain again with Ofgem’s utility price caps set to be substantially higher when they are reset in October 2022. This is seen as an upside risk for inflation as energy prices are a quick proxy for inflation expectations.
In their June meeting the Bank of England hiked rates by 25 bps to 1.25% last week on a move that was widely anticipated. Headline inflation is expected to move into double digits and growth is expected to turn negative in 2023. This stagflationary environment has been weighing on the GBP for some time as the BoE start to push back against aggressive STIR market rate hike pricing. The BoE dropped their guidance from May on the future path of tightening. In May’s statement they had said ‘some degree of future tightening in monetary policy may still be appropriate in the coming months’. By dropping this they are signalling that they don’t expect to keep tightening. However, the exact path will depend on the pace of inflation.
Inflation, inflation, inflation
The BoE think they can get on top of inflation with their current hiking cycle. . The BoE stated that ‘CPI inflation was projected to fall to a little above the 2% target in two years’ time, largely reflecting the waning influence of external factors’. In other words the cooling of the economy and high inflation will be impacted by the rise in interest rates implemented by the Bank of England.
Is a slower path now ahead for the BoE?
After the meeting markets priced in six 25 bps rate hikes as opposed to seven 25 bps rate hikes prior the meeting. This is still steeper than the BoE are indicating, but the exact path ahead will be dependent on upcoming inflation data. If inflation continues to rise then that means more aggressive pricing can be expected
What this means for the GBP?
WIth falling growth and rising inflation the same bearish outlook remains for the GBP. Any very deep dips on the EURGBP remain worth buying as it would be reasonable to expect buyers from deep value areas as marked below.
Don’t forget that I can be booked here for breaking commentary on the latest central bank decisions and speeches. I recently appeared on the BBC World Business Report discussing the GBP’s reaction to Boris Johnson’s confidence vote. Last Friday I was interviewed by Michael Portillo on Times Radio on international inflation levels. My segment starts around 08:40.