The Pound Sterling posted gains on Tuesday with a weaker US dollar and expectations of a Bank of England interest rate hike providing net support.
The Pound to Dollar (GBP/USD) exchange rate advanced to above 1.3500 and secured a further advance to near 1.3550 on Wednesday.
The Pound to Euro (GBP/EUR) exchange rate also posted a net gain to 1.2020 before settling just below 1.2000 after failure to post fresh 23-month highs.
Inflation Spreads in the Retail Sector
BRC reported that UK shop prices increased 1.5% in the year to December from 0.8% the previous month and the strongest reading since December 2012.
Food prices rose by 2.7% over the year, the strongest increase since 2013 with BRC reporting that poor harvests, labour shortages and rising global food prices were contributory factors.
Non-food prices rose by 0.9% after falling by 0.2% in December.
BRC chief executive Helen Dickinson commented; “The rise in shop prices is playing into wider UK inflation, which is pushing cost of living to the forefront of the political agenda. Many households will find it difficult to absorb the additional costs, as well as others on the horizon.
She added; “Retailers are working hard to cut costs, but it would be impossible to protect consumers from any future rises. As commodity prices, energy prices and transportation costs continue to rise, it is inevitable that retail prices will continue to follow in the future.”
Mike Watkins, head of retailer and business insight at NielsenIQ, which co-produces the data noted; “The surge in energy and travel costs is now impacting disposable incomes and is likely to dent consumers’ willingness to spend.”
Markets Expect BoE will Respond
There are strong expectations that the Bank of England (BoE) will respond to inflation concerns with a further increase in interest rates to 0.50%.
ING noted; “EUR/GBP pared Monday’s gains yesterday, getting back on track to test the 0.8300 support tomorrow when we expect a combination of a BoE hike and a patient ECB to generate more pressure on the pair.”
Bank of America remains sceptical over the Sterling outlook “We doubt that a hawkish BoE provides the kind of impetus that it did in December as GBP enters into a month which has historically presented seasonal headwinds to sterling.”
Dollar Remains on the Defensive
The dollar has continued to lose ground with the Euro to Dollar (EUR/USD) exchange rate advancing to near 1.1285.
There has been short covering in the Australian dollar and renewed buying support for European currencies.
Marshall Gittler, Head of Investment Research at BDSwiss Group, commented; “USD’s weakness was also due more to the risk-on sentiment than US fundamentals. On the contrary, yesterday’s US economic news was distinctly positive for the dollar.”
Capital Economics still consider that markets are underestimating how high US rates will go; “Fed fund futures imply a peak around 1.75-2.0% which would be very low by historical standards and would likely still leave real rates in negative territory.”
It adds; “We think the terminal rate in the U.S. currently discounted in money markets is too low, both in absolute terms and relative to equivalent rates elsewhere. This is the key reason why we think the greenback will eventually resume its rise.”
ING expects that the dollar selling will abate; “we expect the dollar’s positioning now to have reached a somewhat more balanced level which can allow for some stabilisation. After all, a market that is quite freely speculating on the pace and size of Fed tightening is unlikely to turn much less bullish on the dollar anytime soon.”
MUFG expects a firm US dollar in the near term; “The focus on the potential for more aggressive tightening by the Fed will likely keep the US dollar supported for now.”
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