British Pound Outlook Hinges on BOE Rate Decision, Policy Statement

Fundamental Outlook for British Pound: Bearish

GfK consumer confidence tumbled to a 6-month low, savings intentions plunged to record low
- British pound benefited from surprise rise in UK mortgage approvals, Barclays news
BOE MPC Member Blanchflower issues dovish comments, says BOE should cut rates “further and quickly”

The British pound was the strongest of all the majors last week, as the currency trades in a highly speculative manner and attempts to recoup the massive losses accumulated between October 2008 and January 2009. However, with both Credit Suisse overnight index swaps and a Bloomberg News poll reflecting expectations that the Bank of England will cut rates by another 50 basis points at 7:00 ET on Thursday to a new record low of 1 percent, it’s worth wondering how far this British pound rally can extend.

There are few doubts that the BOE will at least consider slashing rates again since the UK remains in a deep recession and officials anticipate that things will only get worse. In fact, BOE Monetary Policy Committee Member David Blanchflower, who is easily the most outspoken and dovish member on the Committee, said on January 29 that the UK economy may face a recession worse than that of the one in the 1980’s and that the Bank Rate needs to be cut “further and quickly.” Furthermore, he said that the MPC has considered their options in the case that the Bank Rate is cut to zero, which was quite timely comment when you consider that Chancellor of the Exchequer Alistair Darling gave the BOE permission today to buy 50 billion pounds worth of bond and commercial paper in order to alleviate tight credit conditions. Overall, this leaves the odds in favor of year another rate cut by the BOE on February 5, but the reaction of the British pound may depend on what sort of bias is reflected in the Monetary Policy Committee’s subsequent statement. As we saw with the reaction of GBP/USD to the BOE’s last rate cut, rallies in the pair are possible if the MPC leaves no indications that they will cut rates further. On the other hand, suggestions that the markets are correct to price in additional reductions could send the British pound the way of the New Zealand dollar following the RBNZ’s rate decision on January 28: down. – TB