Pound Sterling falls as UK economy enters into a technical recession

• Pound Sterling faces a sharp sell-off as the UK Q4 GDP contracted by 0.3%.
• The BoE may consider aggressive rate cuts due to easing inflation, slowing wage growth and poor economic outlook.
• The US Dollar corrects as investors digest the Fed’s hawkish narrative.

The Pound Sterling (GBP) falls back in Thursday’s early European session as the United Kingdom economy enters into a technical recession. The preliminary Gross Domestic Product (GDP) data from the UK Office for National Statistics (ONS) shows that the economy contracted by 0.3% in the fourth quarter. This means the UK economy has contracted for the second straight quarter in a row – the definition of a technical recession. The data could also ignite expectations of early rate cuts by the Bank of England (BoE), who may be keen to introduce growth-stimulating policies.

The broader appeal for the Pound Sterling has weakened as majority of economic indicators apart from the economic contraction are pointing to aggressive rate cuts by the BoE to avoid further contraction. The Pound Sterling tends to face foreign outflows when expectations for the BoE turning dovish escalate.

The consumer price inflation remained steady in January while investors forecasted it to accelerate further. Also, BoE Governor Andrew Bailey sees price pressures taming to the required target by Spring.

While wage growth and service inflation are still skewed to the upside and therefore unlikely to bring inflation down to the 2% target, the moderate decline in wage growth momentum is clearly visible.

Meanwhile, the US Dollar has faced some backfilling after a sharp rally inspired by cooling expectations of early rate cuts by the Federal Reserve (Fed). Investors now expect the Fed to hold interest rates unchanged in the range of 5.25%-5.50% till June monetary policy meeting.

Daily Digest Market Movers: Pound Sterling off from day's high

• Pound Sterling faces a sharp sell-off as the United Kingdom ONS has reported that the economy contracted by 0.3% in the last quarter of 2023. Investors anticipated a deceleration of growth of 0.1%.
• The UK GDP also contracted in the third quarter of 2023, indicating the economy meets the criteria for a technical recession.
• This has escalated hopes of early rate cuts by the Bank of England as the economy desperately needs the stimulus provided by lower borrowing costs.
• This week, the expectations for an early unwinding of the restrictive policy stance by the Bank of England were already prompted by a steep slowdown in wage growth and steady annual inflation figures.
• Meanwhile, the inflation outlook softened on Wednesday after BoE Governor Andrew Bailey said inflation will come down to the target by spring.
• Andrew Bailey warned that wage growth and service inflation are still too high to be consistent with the central bank’s target of 2%.
• Bailey mentioned that policymakers would support rate cuts only after getting evidence that wage growth is receding.
• The monthly Manufacturing Production for December rose steadily by 0.8% MoM, while investors anticipated a stagnant performance. On an annual basis, the economic data grew at a higher pace of 2.3% against expectations of 0.6% and the prior reading of 1.9%.
• Monthly Industrial Production was up by 0.6% against 0.5% growth in November.  Investors anticipated a decline of 0.1%. Surprisingly, the annual factory data rose by 0.6% while investors forecasted a contraction of 0.1%.
• On the United States front, the US Dollar Index (DXY) has gradually corrected from a three-month high of 105.00 as investors realize that the Federal Reserve will not cut interest rates sooner.
• The broader appeal for the US Dollar is upbeat as investors are now pricing in only three rate cuts this year, as guided by the Fed, after stubborn inflation data.
• Going forward, January's monthly Retail Sales data will guide the US Dollar, which will be published at 13:30 GMT. According to the estimates, the economic data contracted by 0.1% against a 0.6% increase in January.

Technical Analysis: Pound Sterling eyes downside toward 200-DEMA

Pound Sterling retreats from day’s high near 1.2570 as the UK economy has shifted into a technical recession. The GBP/USD pair is expected to resume its downside journey towards the 200-day Exponential Moving Average (EMA), which trades around 1.2520. More downside seem likely as the 20 and 50-day EMAs are on the verge of delivering a bearish crossover.

The 14-period Relative Strength Index (RSI) struggles to hold above 40.00. Failing to hold the same would trigger a bearish momentum.