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Sterling Caught Between a Rate Hike and a Hard Brexit

Sterling Caught Between a Rate Hike and a Hard Brexit
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October 18, 2017 By: , No Comments

Rumours have been circulating about Brexit negotiations heading towards yet another impasse. The GBP/USD pair was trading at 1.3246, after briefly rallying as high as 1.3291 on Monday, 16 October 2017. The decline of 0.2% is yet another blip on the radar for the beleaguered sterling. Sentiment soured as talk of a Brexit Breakdown began circulating through currency markets. GBP sales on markets are likely to gain momentum any time analysts discuss a Hard Brexit.

 

Will Yellen’s tenure come to an end in February 2018?

The performance of GBP/USD hinges upon each component in the ratio: the sterling and the dollar. Recently, President Donald J. Trump indicated that Janet Yellen may be replaced as Federal Open Market Committee (FOMC) chairman in 2018 with a candidate from Stanford University known as John Taylor. He is a far more hawkish economist than Yellen, and his appointment could signal a dramatic shift for the Fed. Consequently, 2-year yields on US Treasury Bonds spiked to their highest level in 9 years.

Perhaps the most important data to be released on Tuesday, 17 October 2017 was UK CPI data. The Bank of England (BOE) will be carefully considering its options vis-à-vis raising interest rates, or at least setting a timeline for when rate hikes may begin. Unfortunately, sterling weakness continues, and this is thanks largely to the uncertainty related to Brexit negotiations. The BOE set an inflation target rate of 2%, yet inflation is rising rapidly in the UK, thanks to a weak GBP and rising import costs. UK inflation data for September was announced, and it dovetails with the release of data for the Eurozone CPI data for September.

 

Triple Lock Guarantees Higher Pensions in the UK

The latest figures reflect UK inflation at its highest level since April 2012. Sharp increases in food costs and transport prices are driving up the CPI, which edged 3% higher. In August, the CPI figure read 2.9%. The BOE is carefully mulling its prospects with regards to raising the bank rate which is currently at a multi-decade low of 0.25%. CPI figures remain important, given that the UK’s pension payments will be hiked in April 2018. According to the UK blueprint for pension payments, there is a triple lock guarantee in place which means that a minimum earnings growth of 2.5% or equivalent CPI rate of 3% – whichever is bigger must be implemented.

Currently, the UK state pension runs £159.55 per week, or £638.2 per 4-week period, and a total of £8,296.60 per annum. An increase of 3% would raise that to £8,545.50 per year. The biggest problems with sterling relate to political pressures. These include Prime Minister Theresa May’s ability to negotiate a Brexit agreement with the EU, and the decisions taken by Bank of England governor Mark Carney with regards to interest rates. If all things go according to plan (May is successful and an interest rate hike is on the cards), this could be the best final quarter for the sterling since the Brexit referendum on June 23, 2016. Of course, the extreme volatility we have seen with GBP of late is likely to continue.

If the United Kingdom is offered a 2-year transitionary deal by the European Union, sterling could rise markedly. Prime Minister May is pressured from within her own party, with members like Boris Johnson, and David Davis, and from outside forces including EU regulatory authorities. Even BOE governor Mark Carney is under the gun, with expectations of a rate hike pressuring him to make a hawkish decision. If he reneges on his duty to raise rates, currency traders will not be so forgiving.

Do you feel that Prime Minister May will be successful in her efforts at negotiating a settlement with the EU? How likely are we to see a 25-basis point rate hike by the Bank of England?

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Brett Chatz

About Brett Chatz

Brett Chatz is a graduate of the University of South Africa, and holds a Bachelor of Commerce degree, with Economics and Strategic management as his major subjects. Nowadays Brett contributes from his vast expertise in online trading for iForexTrader.co.uk.

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