The Pound Finally Has a Friend in Mark Carney

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Don’t accuse Mark Carney of being a currency manipulator (anymore). 

True, the Bank of England Governor has something to answer for. He announced an interest-rate cut in August 2016, just as the Brexit vote sent sterling reeling. That worsened the devaluation, and proved he was no friend of the currency. It was complicated. 

Now, they’re back on speaking terms. The BOE will almost certainly raise its key rate 25 basis points to 0.75 percent at Thursday’s policy decision. That should lend the currency the support it’s been sorely missing, and not just because of the recent Brexit-induced political turmoil. Carney’s backtracking on guidance for a May hike after first-quarter economic data came in weaker than expected gave traders the idea that the bank’s November increase might turn into a story of one-and-done instead of a (very) gradual tightening phase. 

But for the pound, one friend is not enough, and it doesn’t look likely to find another anytime soon. Its range of the past two months, of between 1.30 and 1.34 to the dollar, looks set to last for some while yet. 

Don’t Get Too Excited

The pound is at a comparable level to the dollar as when the BOE last raised rates, but the similarities pretty much end there — its current range looks likely to last

Source: Bloomberg

If the bank was getting cold feet about finally, at long last, raising rates above 0.5 percent — as it did in May — Deputy Governor Ben Broadbent’s speech on July 23 was its last chance to send a signal. And it sent none. 

Market expectations for a rate hike this week are now at 90 percent. At this point, if officials voted for no change, the Monetary Policy Committee’s credibility with investors would be pretty well shattered. This can’t be completely ruled out, as about 20 percent of economists in a Bloomberg News survey forecast rates to stay at the current level. 

But as soon as one rate hike comes, traders look to smoke out when the next one is due. Luckily the bank is about to give them some help. The BOE will unveil a shiny new measure which will encapsulate all the elements of its forward rate guidance into a single measure: the neutral rate of interest, or in central banking parlance, r-star (r*).

R* shows where the MPC believes rates need to settle, over its three-year forecast period, so the economy is balanced — running neither too hot or too cool. This Goldilocks level defines what the bank’s “limited but gradual” policy guidance actually means.

The BOE has already primed expectations for 1.5 percent, as this is the level official have said rates must reach before they can start unwinding bond purchases — otherwise, they’d be acting too soon and the economy wouldn’t be able to cope. 

Keeping it Neutral

The Bank of England’s forward estimate of neutral rates, that it will publish Thursday, could be a big deal for sterling

Source: Bank of England, Bloomberg Economics

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