Yesterday, the Bank of England
vote unanimously to leave the size of its asset purchase plan unchanged at 175
billion pounds and voted to leave interest rates unchanged at 0.5%. This
is seemingly good news for the Pound in the near-term, as the currency markets
are reflecting this morning with the British pound up vs. other
currencies. But what is the outlook for GBP going forward?
Back in August at the BOE,
there were some who had wanted even more quantitative easing yet were
comfortable with following through with the plans laid out in August, as the September
minutes show. So while economic conditions have stabilized just enough to
warrant a continuation of policy, is a full blown recovery already underway?
Let’s take a look at a few
factors that could “weigh heavily” on the British pound and what this means for
other markets as well.
For starters, it is
commonly known that the British are more “conservative” than their
free-wheeling Yankee neighbors across the pond. This means that they
usually take more thought-out measures and need more convincing that a dire
situation may persist. Thus it is no surprise that they left policy
unchanged. Some would argue though that this makes them more re-active
than pro-active, and that by the time increased negative forces come to light,
it could be too late. Quite the opposite of Bernanke et al. So in
this regard, we can’t rule out the possibility of further quantitative easing
should conditions deteriorate.
But the British Bankers
Association (BBA) just reported that loans for home purchases declined
from the previous month and missed expectations, a sign that perhaps their
economy is not ticking up or that the QE measures the BOE has taken haven’t
taken hold yet as tighter credit conditions haven’t sparked an uptick in
demand. Should housing demand continue to fall, then this could prolong
the economic recovery they are hoping for.
So if housing prices
decline as a result of falling demand, then the BOE might just have to deal
with deflationary pressures rather than the inflation they are hoping
for. This could mean more QE which would put further pressure on the
British pound.
But in the near-term, I
can’t see the GBP falling against the US dollar as Bernanke’s path to dollar
destruction has been well-established. As I wrote on Monday, nothing
is going to change at today’s FOMC meeting as Bernanke doesn’t want to spook
the stock market. And the correlation between the S&P 500 index (SPY)
and the British pound (FXB) has been pretty tight. Here’s a 3-year
chart:
So if we are expecting the stock
market to advance on Bernanke’s non-action at the FOMC meeting, then it follows
that the dollar should decline and the pound should advance.
However, should the stock market
run out of gas later this year, this could coincide with British pound
weakness as a result of sluggish economic growth in the UK. This could be
the double-whammy that the stock market Bears have been looking for.
But until that occurs, keep your
eyes on the British economy and don’t fight the Fed!