The Pound Sterling (GBP) is aiming to stretch recovery as the United Kingdom’s government is looking to inculcate fiscal tools in the battle against stubborn inflation. The GBP/USD pair recovered after remaining well-supported near 1.2700, after the British administration announced new fiscal measures such as cutting wages of public sector employees. The British government also asked companies to bring down profit margins to tame sticky inflation, which might help trim fears of a bleak economic outlook.
Last week, hotter-than-expected headline United Kingdom’s headline inflation and fresh highs in the core Consumer Price Index (CPI) forced the Bank of England (BoE) to announce a fat rate hike of 50 basis points. Headline inflation remained higher than anticipation as upbeat sales of second-hand automobiles offset a decline in energy prices.
Pound Sterling is gathering strength for a confident move above the immediate resistance of 1.2740. The Cable is consistently getting decent support near the round-level support of 1.2700, however, efforts could be in vain as the US Dollar Index (DXY) is recovering from a corrective move.
The Pound Sterling is in a mean-reversion mode and is expected to find support near the 20-period daily Exponential Moving Average (DEMA). Downside bias in the Cable could strengthen if it fails to keep supported around 1.2700. While Pound Sterling bulls could come back in action if Cable climbs above 1.2800.
The Bank of England (BoE) decides monetary policy for the United Kingdom. Its primary goal is to achieve ‘price stability’, or a steady inflation rate of 2%. Its tool for achieving this is via the adjustment of base lending rates. The BoE sets the rate at which it lends to commercial banks and banks lend to each other, determining the level of interest rates in the economy overall. This also impacts the value of the Pound Sterling (GBP).
When inflation is above the Bank of England’s target it responds by raising interest rates, making it more expensive for people and businesses to access credit. This is positive for the Pound Sterling because higher interest rates make the UK a more attractive place for global investors to park their money. When inflation falls below target, it is a sign economic growth is slowing, and the BoE will consider lowering interest rates to cheapen credit in the hope businesses will borrow to invest in growth-generating projects – a negative for the Pound Sterling.
In extreme situations, the Bank of England can enact a policy called Quantitative Easing (QE). QE is the process by which the BoE substantially increases the flow of credit in a stuck financial system. QE is a last resort policy when lowering interest rates will not achieve the necessary result. The process of QE involves the BoE printing money to buy assets – usually government or AAA-rated corporate bonds – from banks and other financial institutions. QE usually results in a weaker Pound Sterling.
Quantitative tightening (QT) is the reverse of QE, enacted when the economy is strengthening and inflation starts rising. Whilst in QE the Bank of England (BoE) purchases government and corporate bonds from financial institutions to encourage them to lend; in QT, the BoE stops buying more bonds, and stops reinvesting the principal maturing on the bonds it already holds. It is usually positive for the Pound Sterling.
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