The important detail to note coming into the BOE policy decision today is that the UK is leading the recession race among the major economies at the moment.
That puts the BOE between a rock and a hard place when it comes to policy setting and how much to raise interest rates in order to combat inflation. While the central bank was among the first to act, their gradual approach ultimately also seems to put them behind the curve as UK inflation looks set to hit double-digits sooner or later.
However, it is not to say that monetary policy was supposed to be the one-stop solution at the end of the day. But policymakers have pretty much outplayed themselves here as the deterioration in the economy looks to be taking shape much faster than anticipated.
With the UK set to encounter recession risks in the months ahead, it puts more risk on the central bank to make a policy misstep especially if they are to hike interest rates too aggressively. The thinking here now is that the more aggressive the BOE is, the quicker it is inviting recession risks. At the end of the day, I would argue that should lead to a softer pound on the balance of things (eventually the BOE will have to step back sooner).
Given the predicament, it puts the BOE in a rather unenviable spot as another 25 bps rate hike today will do little - or should I say nothing - in terms of bringing down inflation
Inflation
Inflation is defined as a quantitative measure of the rate in which the average price level of goods and services in an economy or country increases over a period of time. It is the rise in the general level of prices where a given currency effectively buys less than it did in prior periods.In terms of assessing the strength or currencies, and by extension foreign exchange, inflation or measures of it are extremely influential. Inflation stems from the overall creation of money. This money is measured by the level of the total money supply of a specific currency, for example the US dollar, which is constantly increasing. However, an increase in the money supply does not necessarily mean that there is inflation. What leads to inflation is a faster increase in the money supply in relation to the wealth produced (measured with GDP). As such, this generates pressure of demand on a supply that does not increase at the same rate. The consumer price index then increases, generating inflation.How Does Inflation Affect Forex?The level of inflation has a direct impact on the exchange rate between two currencies on several levels.This includes purchasing power parity, which attempts to compare different purchasing powers of each country according to the general price level. In doing so, this makes it possible to determine the country with the most expensive cost of living.The currency with the higher inflation rate consequently loses value and depreciates, while the currency with the lower inflation rate appreciates on the forex market.Interest rates are also impacted. Inflation rates that are too high push interest rates up, which has the effect of depreciating the currency on foreign exchange. Conversely, inflation that is too low (or deflation) pushes interest rates down, which has the effect of appreciating the currency on the forex market.
Inflation is defined as a quantitative measure of the rate in which the average price level of goods and services in an economy or country increases over a period of time. It is the rise in the general level of prices where a given currency effectively buys less than it did in prior periods.In terms of assessing the strength or currencies, and by extension foreign exchange, inflation or measures of it are extremely influential. Inflation stems from the overall creation of money. This money is measured by the level of the total money supply of a specific currency, for example the US dollar, which is constantly increasing. However, an increase in the money supply does not necessarily mean that there is inflation. What leads to inflation is a faster increase in the money supply in relation to the wealth produced (measured with GDP). As such, this generates pressure of demand on a supply that does not increase at the same rate. The consumer price index then increases, generating inflation.How Does Inflation Affect Forex?The level of inflation has a direct impact on the exchange rate between two currencies on several levels.This includes purchasing power parity, which attempts to compare different purchasing powers of each country according to the general price level. In doing so, this makes it possible to determine the country with the most expensive cost of living.The currency with the higher inflation rate consequently loses value and depreciates, while the currency with the lower inflation rate appreciates on the forex market.Interest rates are also impacted. Inflation rates that are too high push interest rates up, which has the effect of depreciating the currency on foreign exchange. Conversely, inflation that is too low (or deflation) pushes interest rates down, which has the effect of appreciating the currency on the forex market.
Read this Term while a 50 bps rate hike or more would just stir up the debate on recession risks.
Whichever way they decide to go with, I think the risks for the pound are still to the downside in the aftermath.
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