So, the Bank of England day finally arrives and the rate decision is due in less than half an hour, but will it be a Super Thursday for once? It could be if you are on the right side of the potentially sharp move for the pound!
For so long, policymakers at the BoE had to do very little after cutting interest rates to a record low 0.5% in March 2009. Since then, the UK economy was steadily recovering from the financial crisis as inflation remained weak. Everyone thought that the next move would be to slowly tighten policy in order to avoid overcooking inflation. But then Brexit happened, which led to a sharp drop in consumer confidence and triggered a political turmoil. All of a sudden, the outlook for economic growth turned grim. The pound slumped as the market prepared for more rate cuts and possibly even QE.
Thus, the Bank of England is widely expected to do something today, possibly deliver a 25 basis point rate cut. But it could also restart its bond buying programme and introduce other measures to support lending to households and businesses.
However, the swift appointment of a new Prime Minister in the UK means the political situation here is now a lot less uncertain, while the pound’s sharp depreciation in the aftermath of the Brexit vote means import costs are rising which may be passed onto the consumer. So, inflation could be on the rise.
Therefore, the BoE may actually hold off cutting interest rates at this meeting or at the very most deliver a small cut – certainly no more than 25 basis points, in my view. A small rate cut will still keep intact the bank’s credibility because it will have done something as promised, while at the same time it will unlikely overcook inflation.
As far as the pound’s likely reaction is concerned, a small rate cut may cause a knee-jerk drop before a bounce as this outcome is probably mostly priced in. The bigger risk will therefore be if it is either a larger cut than 25 basis points and/or accompanied by QE, which could see the pound slump. Either that or the bank refuses to alter its policy whatsoever, in which case a sharp short-squeeze rally could be the outcome for the pound.