1.3400: British Pound seeks to consolidate above this level as US Dollar weakens

1.3400 holds below GBP/USD, with the pair set for a 1.4% gain over the past two weeks.
A Fed pause next week and a BoE rate increase in early November are the outcomes markets are preparing for.
Uncertainty over the extent of the Fed’s tightening cycle weighs on the US Dollar.

1.3400 remains just below GBP/USD at one-month highs. The pair is on course for a 1.4% advance over the past two weeks. On Thursday, the British Pound (GBP) continues to strengthen against a softer US Dollar (USD) as markets prepare for next week’s Federal Reserve (Fed) policy decision. In the UK, conditions favour a Bank of England (BoE) rate increase in November.

TMGM Analysis: Financial Market News, Economic Calendar & Market Insights

Pressure on the BoE to raise borrowing costs increased after Wednesday’s UK figures confirmed that elevated energy prices are driving consumer inflation higher. Meanwhile, UK Gross Domestic Product (GDP) figures published last week showed continued economic growth. That should make the decision easier for policymakers at their 5 November meeting.

Further signals on the next monetary policy meeting may come later in the day from BoE Governor Andrew Bailey. He is expected to address central bank independence at the Official Monetary and Financial Institutions Forum (OMFIF).

US Dollar under pressure as markets assess Fed tightening outlook

Lower US Treasury yields continue to weigh on the US Dollar. Following dovish-leaning remarks from Fed officials, investors consider a rate increase at next week’s meeting unlikely and are assessing how far the tightening cycle will extend.

A cautious message came from Fed Chair Warsh last week, when he declined to prejudge the October and December meetings. Other Government Board members called for more time to evaluate the effects of September’s rate increase before raising borrowing costs again.

ING analysts retain a bullish view on the Pound. In a note, the Dutch bank says: “Greater market confidence in a Bank of England tightening cycle – we look for 25bp hikes in February and November – makes sterling a high-carry European currency,”

Central banks: key questions

The role of a central bank

Maintaining stable prices within a country or region is a central bank’s core mandate. As prices for particular goods and services fluctuate, economies continually face inflation or deflation. Persistent increases in the prices of the same goods constitute inflation; persistent declines constitute deflation. By adjusting its policy rate, a central bank seeks to keep demand in balance. Major central banks, including the US Federal Reserve (Fed), the European Central Bank (ECB) and the Bank of England (BoE), are tasked with keeping inflation close to 2%.

Policy responses when inflation misses its target

Adjusting the benchmark policy rate, commonly called the interest rate, is a key tool for raising or lowering inflation. At previously announced times, a central bank publishes a statement setting out its policy rate and explaining why it has held, reduced or increased it. Domestic banks then adjust savings and lending rates. Those changes affect how easily savers can earn returns and businesses can borrow to invest in their operations. Substantial interest rate increases are known as monetary tightening. Reductions in the benchmark rate are known as monetary easing.

The policymakers behind interest rate decisions

Political independence is common among central banks. Before appointment to a policy board, candidates undergo a series of panel assessments and hearings. Board members typically hold individual views on controlling inflation and the monetary policy needed to achieve that. Those who favour very accommodative policy, low rates and inexpensive borrowing to provide a substantial economic boost, while accepting inflation slightly above 2%, are known as ‘doves’. By contrast, ‘hawks’ favour higher rates to reward savers and seek to contain inflation at all times. They remain focused on bringing inflation to, or just below, 2%.

Central bank leadership and communication

Meetings are usually led by a chairman or president, whose responsibilities include building consensus between hawks and doves. If votes on changing policy are evenly split, the chair has the final say to prevent a 50-50 tie. Speeches by the chair, often available to follow live, communicate the current policy stance and outlook. Central banks aim to advance monetary policy without causing sharp movements in interest rates, equities or their currencies. Before a policy meeting, all members communicate their positions to the markets. A ban on public comments then applies from a few days before the meeting until the new policy is announced. This interval is known as the blackout period.