BOE’s decision a double-edged sword

Bets for a 50bps hike are rising, but there is still a considerable amount of uncertainty among analysts given the circumstances and challenges the BOE faces.

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Double or single hike

With inflation at a 40-year high, the BOE is under increasing pressure to get inflation under control. However, the bank seems to remain hesitant to make bigger moves than incremental 25 basis point hikes, worried about flagging economic outlook. Business activity in the UK has fallen to the worst it's been since the covid vaccines have become available.

In this context, the latest poll of economists conducted by Reuters showed a very narrow majority expecting that the BOE will raise rates by a quarter point at the next meeting. The remainder support a 50-bps hike. However, this contracts with money markets and investment researchers, which seem inclined towards a "double" hike. If the BOE were to deliver, then it would also be a first in decades.

The market reaction might surprise

For several meetings now, the vote has been divided, with dissenters calling for more aggressive action. It would just take two MPC members to switch, and a 50bps could be delivered by the slimmest margins. That could leave the market content, but could have a more "dovish" interpretation as traders look to the next meeting.

The market reaction could be choppier given the divergence between economists' and traders' forecasts. But even though the BOE was the first to start raising rates, the Fed's much more aggressive actions have left the pound trailing in terms of interest rates. If the BOE doesn't step up the pace, the interest rate gap with the dollar might continue to widen while the gap with the Euro could start shrinking.

Cable above 50SMA

The British Pound has continued to see a robust ascend off the $1.1760 lows registered on July 14, and it recently confirmed a breakout above the 50-day average at $1.2137. The move presented itself after a diagonal pattern coupled with an RSI bullish divergence started offsetting downward velocity.

The fruition of the 5-leg formation could send prices to the 38.2% Fibonacci retracement of the $1.3750-$1.1760 leg at $1.2520. The observed levels of $1.2760 and $1.2995 are medium-term resistances instead.

In the shorter term, failure to recapture $1.2520 or $1.2667 could keep a lid on the underlying trend and put the $1.20 backdrop – or lower- in jeopardy. In the interim, the round levels of $1.22 and $1.21 would act as minor supports.

Source: Spreadex trading platform

Key takeaways

The BOE is worried about flagging economic outlook, so it has been hesitant to make aggressive moves. As such, it is expected to raise rates by a quarter point at the next meeting, but money markets and investment researchers predict a 50bps rate hike. Only a couple of members of the MPC need to switch their vote to allow a 50bps rate cut. The British Pound might experience more volatile swings as the interest rate gaps with the dollar and euro would widen and shrink if the BOE underperforms expectations.