Predicted rate rise pushes pound to 26-year high

Chris Towner, Senior Economist at independent currency experts HiFX comments,“Last week, a rise in the Bank of England Base Rate was a near certainty, with the markets having already priced in at least one more this year. This has helped to push sterling to record levels against the dollar as investors have been making the most of an anticipated higher yield due to interest rate differentials in the FX market.

“Events over the weekend, putting the UK on the highest terror alert since July 2005, have now changed this. Coupled with a new Prime Minister and dampened consumer confidence, the MPC may well decide that current geo-political conditions dictate a need to leave interest rates where they are for another month.

“The decision to hold rates at the last MPC meeting was extremely tight, with 4 votes to 5 in favour of increasing rates by 25bps to 5.75%. Mervyn King’s is always the last to vote and his decision to vote for a rise, when he would have known that the vote was already swayed for a hold, indicates his belief in the need for people to reign in their spending.

“While the markets have already priced in at least two rises before the end of the year, it is up to the MPC to guide the markets and not for the markets to guide the MPC. It is worth noting that the recent strength of sterling has already eased inflation and so reduced the need for aggressive rate increases.”

Towner concludes, “This week we are watching the Dollar movements very closely to see if the current consolidation above the previous $2.01 peak is sustainable. If UK interest rates do indeed go up on Thursday, we would expect to see a short term flurry with the GBP/USD going higher, however we must also account for the fact that is already priced in.”