The British Pound is Preparing for Another Period of Volatility

[Ben Graham]

Following yesterday's inflation data, the British pound is preparing for another bout of volatility. Today, the Bank of England is likely to cut interest rates, as concerns are shifting from inflation toward problems in the UK economy and labor market.

Traders and economists expect the central bank to lower its base interest rate by a quarter of a percentage point to 3.75%—the lowest level in nearly three years.

Previously, it was assumed that the decisive vote would once again come from Committee Chair Andrew Bailey, but yesterday's sharp drop in inflation increased the likelihood that one of the four hawks on the Monetary Policy Committee will switch sides. UK inflation fell to its lowest level in eight months, reaching 3.2% year-on-year after a steeper-than-expected decline in November. Private-sector wage growth has also slowed, and the economy has experienced two consecutive monthly contractions. This is expected to be enough to persuade hawkish UK policymakers to join the four advocates of looser monetary policy at the Bank of England, which include Deputy Governors Dave Ramsden and Sarah Breeden.

A more dovish move would be a clear sign that the Bank of England is concerned about slowing economic growth and the potential onset of a recession. Recent data point to weakness in the manufacturing sector and a contraction in retail sales, increasing pressure on the regulator.

The interest rate cut is intended to stimulate lending and investment, theoretically reviving economic activity. However, the effect of the cut may be limited given current geopolitical uncertainty and ongoing problems in the global economy. Moreover, some experts fear that further monetary easing could lead to undesirable consequences, such as a weaker pound sterling and higher inflation in the long term.

The impact of the Bank of England's decision on the currency market will be significant. A rate cut is expected to put pressure on the pound, making it less attractive to investors. Traders will closely monitor statements from central bank officials to understand their future plans and assess their willingness to take additional measures to stimulate the economy.

In any case, markets are pricing in a more than 90% probability of a rate cut and are forecasting another reduction by the end of April next year.

The Bank of England is also expected to publish new forecasts, which may incorporate weaker economic growth toward the end of 2025. In November, GDP growth of 0.3% was projected for the final three months of this year; however, official data released last week showed that output declined for a second consecutive month, while surveys indicated a sluggish picture in November ahead of the budget.

As for the current technical outlook for GBP/USD, pound buyers need to reclaim the nearest resistance at 1.3385. Only then will a move toward 1.3420 become possible, above which a breakout would be quite difficult. The most distant target lies in the 1.3450 level. In the event of a decline, bears will attempt to take control of 1.3350. If successful, a break of this range would deal a serious blow to bullish positions and push GBP/USD down to the 1.3320 low, with the prospect of a move toward 1.3285.

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