Sterling Under Pressure Over Dovish BOE Talk

Sterling Under Pressure Over Dovish BOE Talk

Sterling is under pressure following some dovish comments from the UK’s central bank on Wednesday morning.

Earlier in the day the Bank of England’s Quarterly Inflation Report cut the central bank’s 2011 GDP forecasts to a 3.2% growth rate from a 4.0% level previously, but said that inflation will peak at 3.3% in Q1 2010 before slowing to 0.9% in Q1 2011.

Indeed, inflation control is at the core of the Bank of England’s mandate, charged with delivering inflation at or near 2.0% year-over-year. Consequently, as long as low inflation indeed prevails in the UK, it means that interest rates can remain low for some time, and the BOE will be able to maintain accommodative monetary policies. This in theory is negative for the pound.

Adding to the downside were comments from Bank of England Governor King who told lawmakers in London that it remains “far too soon” to conclude that the central bank will no longer need to buy government bonds, and that there is no good reason for the country to lose its AAA credit rating.

While the comment over the credit rating is a positive for the pound, any hint that the central bank could increase its bond purchases is extremely dovish or the markets, particularly given that expectations are for no more quantitative easing to enter the UK.

On the flip side, the pound has largely ignored some very upbeat economic data out of the UK earlier this morning.

UK industrial production rose 0.5% month-over-month in December, above calls for a 0.2% increase and prior 0.4% gain, while annual production was down 3.6%, slower than forecasts for a 4.1% pullback and prior 5.7% slide.

Meanwhile, UK manufacturing production rose 0.9% month-over-month in December, faster than expectations for a 0.3% pickup and prior 0.2% gain, and annual production fell 1.9%, slower than forecasts for a 3.0% pullback and prior 4.9% decline.

Market reaction to the data was negligible, with the pound now lower by 80 pips at 1.5639 USD on the day after trading in a range of 1.5632 to 1.5765. Support is at the top of the old range at 1.5632 followed by 1.5552. Resistance is at 1.5800.