Energy Crisis Darkens Pound Outlook Even as Market Prices Hikes
The prospect of a protracted energy crisis in Europe is muddying the outlook for the pound and outweighing any boost it stands to receive as investors price in a faster pace of rate hikes.
With the continent facing a gas shortage and the U.K. hampered further by damage to its supply network, the risk is that inflation will continue to accelerate this winter, denting consumption. Consistently high energy prices also risk widening the nation’s current-account deficit, weighing on the currency, according to Deutsche Bank AG.
While traders are now betting the Bank of England will raise rates faster than previously expected, the pound has trailed its major peers over the past month. That’s upending a relationship that tends to see the currency appreciate as the market prepares for tighter monetary policy, and underscores the headwinds that the economy faces.
“Even if the rates market prices in more hikes from the BOE as a result of the gas price increases, I don’t think the pound will follow it higher,” said Shreyas Gopal, a strategist at Deutsche Bank in London.
Eyes now turn to the BOE policy meeting next week for any evidence that surging power prices will influence its considerations. Signs that customers are beginning to rein in their consumption as a result of steepening utility bills could be enough to delay any tightening, said Jane Foley, Rabobank’s chief currency strategist.
“Even though it will push up the CPI index, it’s not the sort of inflation on which the Bank of England would react to with an interest rate hike,” said Foley. On the contrary, “they’d be likely to take a more cautious view on the path of rates.”
All this is against the backdrop of Brexit- and Covid-19-induced supply difficulties, which could cause inflationary pressures to manifest “even at lower levels of growth,” according to Barclays Bank Plc.
Money-market traders see the BOE raising its policy rate to 0.5% by November 2022, having shifting bets forward to next year this week. The first 15-basis-point increase is expected in May 2022.
“We are in a world of slowing growth but potentially higher rates - not something markets have seen for a while,” said Jordan Rochester, a strategist at Nomura International Plc.
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