Sterling Stalls As Data Misses, Bulls Banking On BOE

Shift in Tone by BOE

Comments by BOE Governor Mark Carney at last week’s Sintra panel saw strong Sterling demand kick in as markets reacted to the BOE’s perceived shift in sentiment. The BOE governor declared that the debate about raising rates before year end is now “live” among the MPC. The key takeaway from this event was the insight it gives into the bank’s reaction function. The BOE continues to become more intolerant towards sterling weakness which should keep GBP supported.

Why does the BOE Want a Stronger Pound?

With most central banks looking for a weaker currency it seems there are only two real reasons why the BOE is looking for a stronger Pound.

The advantages of a weaker currency have been less than the bank expected. While PMI data sets show that manufacturing confidence is back to post-crisis highs, it seems that this is largely tied to robust European growth and, as yet, there aren’t any signs of a significant shift in resources into the industrial sector. The manufacturing sector has lost 30k jobs since the referendum last year, as part of an overall gain of 300k jobs, making it the worst performing sector. Alongside this, trade balance data excluding Oil and erratics shows that there is a remaining deficit.

Not only have the advantages of a weaker currency been less than expected, but the costs of the currency decline have also been higher than expected. Average weekly earnings have started to reverse while inflation has accelerated faster than expected due to the Sterling depreciation, weighing heavily on disposable incomes and household consumption.

Desire For Stronger Pound Made Clear

Policymakers have started to become more explicit about their unease over the exchange rate. Deputy governor Broadbent noted in March that the BOE saw the negative effects of a weak GBP via consumption outstripping the positive effects for exports and investment. BOE governor Haldane recently commented that the cost of living was a clear reason to tighten policy. Indeed, during Carney’s comments at the Sintra panel, he noted that need to sync the BOE’s policy with that of other global central banks though did note the idiosyncratic risk.