BoE to Hold as PMIs Disappoint

The British benchmark rate is expected to remain at record low 0.50% when the Bank of England (BoE) makes its monthly rate statement on June 4.

Of concern is the slowing pace of the United Kingdom’s economy considering the impressive growth rate it achieved in 2013. The last quarter of 2014 saw a cooling of the optimism which made the BoE revise its forecasts ahead of last May’s U.K. federal election. With an empowered Conservative government firmly established in London, the BoE can now focus on inflation, or in this case, deflation.

Governor Mark Carney has reiterated that the current deflationary state is transitory. Lower global oil and food prices have driven inflation down as consumers have not spent at the same rate with a net downward pressure on inflation. Federal Reserve member Lael Brainard questioned the transitory nature of the factors that held back U.S. growth in the first quarter, and how their impact might spill over into the second quarter. The same questions could be raised about the negative factors hammering the U.K. economy that could lead to lower growth in 2015.

The Monetary Policy Committee’s (MPC) meeting minutes for May showed a unanimous nine votes to zero for keeping rates unchanged. Such is the case this year as even policy hawks agree that the current easing monetary policy is appropriate given the slower pace of growth.

Averting a ‘Brexit’

The GBP/USD traded lower after the release of the disappointing U.K. services purchasing managers’ index (PMI), but the pair got a boost from a soft ADP private nonfarm payrolls report in the U.S. The pound recovered lost ground in June on the back of weak economic data out of the United States. Cable continued its downward trend after disappointing U.K. gross domestic product (GDP) data in the first quarter of the year. The GBP has fallen versus both the EUR and USD after a 0.3% growth was reported on a forecast of 0.4%. Interest rate divergence with the Fed, which is expected to raise rates before the end of the year, has depreciated the pound versus major currency pairs. A weaker-than-expected manufacturing PMI at 52.0 and a services PMI at 56.5 dragged down a positive construction PMI at 55.9. The indices are all above 50, indicating expansion, but in the case of British manufacturing and services that expansion appears to be slowing down. The construction industry is a beneficiary of the BoE easing program that has kept rates at a record low with no short-term change on the horizon.

The pound is navigating choppy markets as the Greek debt talks continue to be full of uncertainty, although this time Greece and its creditors appear to be closer than ever to agreeing on a deal. Meanwhile last week, the Old Lady was caught in the headlines for leaked email communications that showed preparations for how the bank would handle the possibility of Great Britain exiting from the European Union. The project, called “Bookend,” is the bank’s main strategy to deal with a potential aftermath if the referendum planned for either 2016 or 2017 results in that reality. Even though the Labour Party was soundly defeated in the election, it will still push its own “yes” vote campaign to encourage Britons to vote to remain in the E.U. That campaign will run alongside the official, “Should the U.K. remain a member of the E.U.?” question that will be posed to British citizens by the ruling Conservative government.

Dependency on Disappointing Data

After the BoE exits the spotlight for the week, the market will be awaiting the release of the weekly unemployment claims from the U.S. before the release of the nonfarm payrolls report on Friday. The rising importance of inflation has raised the profile of the consumer inflation expectations survey in the United Kingdom. The survey continues to show lower forecasts from British consumers on a quarterly basis. The last print was 1.9% down from 2.5% in the previous quarter.

Between U.S. employment figures, and the Greek debt talks going down to the wire, market volatility will remain high. Though the BoE is not expected to introduce any surprises when it releases its rate statement, the pound will continue to be under pressure by the slower pace of the British economic growth. That will leave traders looking for signs of weakness abroad for cable to appreciate versus the USD.

Alfonso Esparza

Alfonso Esparza

Senior Currency Analyst at Market Pulse
Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, Alfonso Esparza established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto.
Alfonso Esparza