BOE Interest Rate Hike Sooner Rather Than Later

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The BOE’s interest rate decision scheduled for May 11 will be the main event risk on the UK economic calendar. Based on the market consensus the BOE is expected to keep its policy rate unchanged. However, what is far more important from the pound’s perspective and for the market is how many BOE policymakers might lean towards tightening and vote to raise interest rates.

What is particularly important with this interest rate decision is if there is going to be any material change in the MPC official bank rate vote. The consensus is for the BOE to hold rates unchanged with a 1-8 vote.

Another theme that hasn’t generated a greater traction for GBP/USD exchange rates is the BOE‘s change of tone towards its current monetary policy. This is not an active market theme thus the market didn’t price in the possibility of interest rates going higher. The market works like a discounting mechanism and we’ll start to see in the near future this fundamental theme to drive currency exchange rates as an effort to price in advance the effect of a possible rate hike.

At the end of last month, Michael Sounders one of the BOE policymakers suggested that interest rates can rise as both inflation and growth are on target and even to exceed BOE’s forecasts.

“A modest rise in rates would still imply that considerable stimulus remains in place, helping to support output and jobs……I do not believe that the MPC is necessarily obliged to delay any policy moves until we have certainty over the exact shape of Brexit and its long-run effects on the economy.” Saunders said – citing Bloomberg.

Saunders is the second voice to support higher rates after Kristin Forbes, another MPC member, who already voted in March to raise rates. An effective 7-2 vote can be the catalyst for speculation that interest rates will finally go up. This seems the right move because historically speaking the BOE has always followed the FED footsteps when it comes to the monetary policy (see chart below).

US vs. UK Interest Rates

The inflation rate has reached levels not seen since September 2013 after jumping to 2.3% last month (see chart below) above BOE target. Despite the UK GDP growth slowdown to 0.3% in the first quarter, the growth forecast for the UK economy remains positive and sooner rather than later BOE will be forced to change its rate policy.

It will be difficult for GBP/USD to sustain any move above 1.3000 big psychological number without a solid fundamental backdrop.

Central banks at the end of the day they do fundamentally drive what is happening in the currency. With the general election coming up in the UK the importance of the BOE has been slightly sidelined. The elections had implications what the BOE will do, but it’s all about relative action from the central bank’s perspective. There is less political uncertainty now than it was before and after the Brexit event. The conservative party is headed for a decent victory in the general elections so there is a good case to be made for speculators to shift their focus towards the interest rate theme.

The heightened uncertainty over EU’s economic and political landscape can also be the driver for more UK capital inflow.

Based on the Wave Analysis, we are expecting some selling pressure to push the GBPUSD lower. A bearish divergence has been forming with a confluence of a 123.6% Fibonacci ratio.

A bearish break below 1.2825 can potentially see more selling momentum for the GBPUSD, pushing it lower towards 1.2486 area.

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A self-taught trader, Kar Yong was once featured in Channel News Asia’s Money Mind Young Investor. He was also featured as a Social Guru on the eToro social trading platform where he led the path for more than a thousand traders in confusing market conditions by sharing his trading strategies through forums and blog posts. Today, he teaches his proprietary 4 Pillar Forex Trading Strategy to students from all over the world.

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