BoE rate decision leaves sterling likely to continue underperforming

Marc Cogliatti, Currency Strategist at HiFX comments "After intense speculation, the Bank of England slashed interest rates by 1.00% today, bringing the UK base rate to 2.00%, as the Central Bank attempts to prevent Britain falling into a prolonged recession. The rapid deterioration in Britain's economy and sharp drop in prices left the Monetary Policy Committee with ample room to follow up last month's stunning 1.50% cut with another sharp reduction, taking rates to their lowest level since 1951.

"If predictions about today's decision from the MPC were steeped in uncertainty, the potential impact of a cut on Sterling has been even more difficult to gauge. In normal circumstances, a cut in interest rates would result in a weaker currency as it makes it less attractive to institutional investors looking for yield. However, in times of recession, central banks that do not cut interest rates are seeing their currencies punished on the basis that they are not being proactive and looking to shore up their economy.

"Sterling has been under extreme pressure in the build up to today's announcement. The Pound has been trading at a six year low against the Dollar (1.4500) and a fresh all time low against the Euro (1.1500). Now that the announcement is out of the way, there may be some room for a bounce, even if it only turns out to be a correction. Either way, Sterling is likely to continue under-performing for the remainder of the calendar year and the Bank of England seem happy for it to do so.

"The Bank's accompanying statement said that "Further depreciation in Sterling should moderate the impact of the global slowdown on the UK". Whilst this makes sense for the UK as a whole, Sterling's weakness is a major headache for the legions of importers, with the rapid pace of depreciation giving them hardly any time of adjust. The Bank of England will be conscious of the need to prevent a further disorderly decline both to protect importers and to avoid a damning fire-sale of UK assets by overseas investors."