GBP Risk Ahead: BoE Rate Decision Tomorrow
Since the onset of the Covid-19 economic crisis in the UK in March, the Bank of England has axe interest rates to just above zero (0.1%) and pledged to expand the size of its QE programme by a further £200bln (which allows the Bank’s holdings to increase to £645bln).
Between the months of March and April, the UK economy shrunk by around ¼, an unprecedented amount over such a short period of time. Given that lockdown easing has been less aggressive than in other parts of the world (such as the US and Europe), the UK economy is expected to have only recovered a meagre amount of this initial loss in May and the early stages of June.
Many economists think that, though next quarter may see a stronger recovery than the latter stages of Q2 (provided Covid-19 infection rates don’t pick up again and lockdowns are re-imposed), the UK GDP is still likely to be well below its pre-Covid-19 at the end of Q3.
As such, the argument’s for continued/further monetary support from the Bank of England are strong.
With rates at near zero, most analysts see the Bank’s primary monetary policy easing tool as to increase further the size of the Bank’s Asset Purchase Facility (APF).
At the current rate of asset purchases, the Bank of England is estimated to on course to use up all of the £200bln in additional QE it added back in March. Analysts are thus calling for another big increase to the bank’s QE programme of between £100bln-£150bln.
An increase of £100bln, note ING, “would allow purchases to continue until early September, which may well mean policymakers need to top-up again in August”. “That's not ideal” says ING “and we suspect we could see a more sizeable - perhaps £150bn - expansion, allowing purchases to continue until early October.”
Alternatively, the Bank could take a leaf out of the Fed's book, and switch to a monthly purchase target as part of an open-ended QE programme. That would help avoid having to make frequent expansions” note ING, but would be a VERY dovish move for the bank.
Another topic of interest at this week’s meeting will be the prospect for negative rates in the UK. Policymakers appear to have become more open to negative interest rates - or at least have been keen not to rule them out. We shouldn’t expect any changes this week, but it’ll be interesting to see what the minutes (which are also released on Thursday) have to say on the topic.
The two key things to watch for GBP will be…
1) The size of the increase of the APF – An increase of greater than £100bln will likely be seen as dovish trigger GBP weakness, while a smaller increase will be seen as hawkish and lead to GBP strength.
2) What the MPC thinks on negative rates. The more open to the idea the bank comes across in the near future, the more GBP will weaken. Conversely, the more the bank raises the bar to negative rates/closes the door on the idea, the more GBP will strengthen.
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