The FINANCIAL -- Developments last month confirmed that the Bank of England will almost
definitely fire up its money printing press again in July as troubles in
Europe threaten to keep Britain in recession for longer than expected.
However, investors expecting that more monetary easing will prove detrimental to the British pound could be left exposed, with some economists predicting a sterling rally once guesswork around the UK central bank’s quantitative easing plans is put to bed.
In recent weeks, UK economic data has done little to suggest that Britain will escape a third consecutive quarterly decline in economic output between April and June, having already registered two negative GDP prints in the two previous periods. Manufacturing activity is shrinking fast, unemployment remains stubbornly high, and business confidence looks shaky.
The only real source of encouragement for the BoE is that consumer price inflation unexpectedly fell to 2.8% in May, helped by falling commodity prices giving policymakers that extra bit of room to make current policy measures even more accommodative. With fiscal, banking, and political risks (collectively referred to as the euro zone debt crisis) bubbling in neighbouring Europe, the British government has already stepped in; Chancellor George Osborne took pre-emptive action in June to defend the economy by launching a new £100bn lending programme.
Yet despite all the panic, sterling steadily recovered through June from earlier four-month lows against the US dollar and made similar progress against the Japanese yen. Furthermore, the pound’s predictable decline against currencies from regions where concerns about monetary and fiscal policy are less distressing, such as the Aussie dollar and Swedish krona, was not as aggressive as some would expect.
This suggests that investors are somewhat reluctant to part ways with the pound. The latest proactive moves by British policymakers could easily have watered-down the pound’s value, but instead appear to be slowly reinforcing the currency’s safe-haven status.
Markets have very few places to hide, with a Spanish bailout looming while the Federal Reserve is pushed towards a third round of asset purchases. If these debates become heated over the next few weeks, investors may have no choice but to grin and bear the BoE’s monetary policy for the time being. Nonetheless, market anxiety ahead of the UK central bank’s July 5th announcement could prove troublesome for the pound, a trend that could also easily snowball if euro zone leaders suddenly emerge with a new debt-busting master plan.