The most important data this week for Sterling is the release of UK Q4 GDP figures on Thursday. The consensus is that the UK economy will continue to rebound modestly, which could give the BOE more room to keep rates elevated. But a surprise could shake up cable as traders assess the timing of rate cuts on both sides of the Atlantic.
Both the BOE and the Fed are on easing tracks, but how quickly each moves will likely determine the path of the GBPUSD. Traders will be looking at the data to price in the odds of each central bank’s next move, and if the BOE is expected to cut before the Fed, this could weaken cable. One of the key elements for the BOE is how much “room” it has to act, thanks to economic growth. If the economy continues to rebound, then the BOE won’t be under as much pressure to ease so soon.
The BOE Is Inclined to Cut
At its last meeting, the BOE voted to keep rates unchanged by the bare minimum, with Governor Andrew Bailey casting the tie-breaking vote. He has long expressed concern about growing slack in the labour market, a typical consequence of slow economic growth. If the economy were to speed up, hiring would likely follow suit. This means that the BOE could stay on the sidelines for longer.
The issue is that inflation remains above target, but is decelerating. Central banks don’t like to cut rates while consumer prices are rising faster than they want. But it takes some time for monetary policy to impact the economy, which can justify cutting rates before inflation falls below target. But officials are always nervous that inflation could rebound, and would much prefer to wait until they can get confirmation in the data.
BOE Cuts Its Outlook, But Not Its Policy
If the economy is underperforming, the central bank is under greater pressure to cut rates to support growth, which can lead to a preemptive rate cut even if inflation is still elevated. But if the economic situation is improving, the central bank will usually prefer to use that “room” to wait for more data on the inflation outlook.
At the last meeting, the BOE cut its CPI forecast, saying it will return to target in Q2, sooner than it had previously expected. This was widely interpreted as a dovish sign, as it justifies sooner rate cuts. But inflation is intimately connected to economic growth. If the economy picks up, so too will inflation. That means a strong GDP showing could delay the BOE from easing.
What the Market is Looking For
The market anticipates that UK Q4 GDP growth will come in at 0.2%, up from 0.1% in the third quarter. This is predicated on December GDP rising just 0.1%, compared to 0.3% in November. Stronger performance than that could lead traders to delay their expectations of a BOE rate cut. But if the economy is softer than anticipated, the odds of the BOE easing could rise.
The UK is also an attractive alternative investment to the US, as investors seek value and avoid high US tech valuations. But British assets are only attractive if the UK economy grows, so slower growth could also weigh on cable as investors look for growth elsewhere.