- Pound Sterling drops amid market caution ahead of UK’s budget, Fed Powell’s testimony.
- Limited exposure to fiscal stimulus in the UK’s spring budget would reinforce hopes of BoE rate cuts.
- Investors await the US PMI data for fresh guidance.
The Pound Sterling (GBP) falls slightly from the crucial resistance of 1.2700 in Tuesday’s European session. The GBP/USD pair has come under pressure due to diminishing investors’ risk appetite and uncertainty ahead of the United Kingdom’s Spring budget, to be outlined by Chancellor Jeremy Hunt on Wednesday.
The scope of fiscal measures will be a balancing act for Jeremy Hunt as the UK economy faces a stubborn inflation outlook and deteriorating growth forecasts. “We’ve always said we would only cut taxes in a way that’s responsible and prudent,” Hunt said on Sunday, according to BBC News
Limited scope for tax cuts would escalate hopes of early rate cuts by the Bank of England (BoE), a scenario that could weigh on the Pound Sterling.
Meanwhile, a dismal market sentiment ahead of Federal Reserve Chair Jerome Powell’s testimony before Congress, also due on Wednesday, and an array of United States economic data this week has brought some relief for the US Dollar.
In today’s session, investors will focus on the US S&P Global and ISM Services PMIs, which will be published at 14:45 GMT and 15:00 GMT, respectively.
Daily digest market movers: Pound Sterling drops on downbeat UK Service PMI
- The Pound Sterling drops from the round-level resistance of 1.2700 amid caution ahead of the United Kingdom’s Spring budget and packed United States economic calendar.
- The market participants will keenly focus on the Spring budget to be announced by Chancellor Jeremy Hunt. An indication of higher fiscal stimulus through tax cuts, a decline in national insurance rates, and significant public spending plans against revenue-raising tools would weaken hopes of early rate cuts by the Bank of England as fiscal stimulus could fuel inflationary pressures.
- The Conservative government’s plan is expected to lean towards spurring growthto avoid the economy falling into a recession again. However, a big stimulus package isn’t expected.
- BoE policymakers have indicated that the technical recession observed in the second half of 2023 was shallow.
- The economy is probably back on track for growth as Retail Sales and PMIs are improving meaningfully. However, an array of liquidity measures is required to confirm that the economy must not get derailed from the path of recovery.
- On the contrary, the limited scope of fiscal measures could prompt chances of early rate cuts by the BoE. Markets expect the BoE to start reducing interest rates in August, when inflation is expected to return to the 2% target before increasing again.
- Meanwhile, the S&P Global/CIPS has reported dismal Services PMI data for February. Services PMI drops to 53.8 from expectations and the prior reading of 54.3.
- The US Dollar rebounds after printing a fresh two-day low near 103.70 as the market sentiment turns cautious ahead of Federal Reserve Chair Jerome Powell’s testimony before Congress on Wednesday and a bunch of US economic data such as the ISM Services PMI, ADP Employment Change, JOLTS Job Openings, and the Nonfarm Payrolls.
- Powell is expected to warn about the potential risks of early rate cuts, reiterating the need for more evidence to confirm that inflation will return to the 2% target.
Technical Analysis: Pound Sterling aims to recapture 1.2700
The Pound Sterling is at a make or a break near the downward-sloping border of the Descending Triangle pattern formed on a daily time frame, placed from December 28 high at 1.2827. A decisive break above the same could result in a sharp upside move. The horizontal support of the aforementioned chart pattern is plotted from December 13 low near 1.2500.
Usually, a Descending Triangle pattern exhibits indecisiveness among market participants, but it has a slight downside bias due to lower highs and flat lows.
The 14-period Relative Strength Index (RSI) oscillates inside the 40.00-60.00 range, indicating a sharp volatility contraction.
Inflation FAQs
What is inflation?
Inflation measures the rise in the price of a representative basket of goods and services. Headline inflation is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core inflation excludes more volatile elements such as food and fuel which can fluctuate because of geopolitical and seasonal factors. Core inflation is the figure economists focus on and is the level targeted by central banks, which are mandated to keep inflation at a manageable level, usually around 2%.
What is the Consumer Price Index (CPI)?
The Consumer Price Index (CPI) measures the change in prices of a basket of goods and services over a period of time. It is usually expressed as a percentage change on a month-on-month (MoM) and year-on-year (YoY) basis. Core CPI is the figure targeted by central banks as it excludes volatile food and fuel inputs. When Core CPI rises above 2% it usually results in higher interest rates and vice versa when it falls below 2%. Since higher interest rates are positive for a currency, higher inflation usually results in a stronger currency. The opposite is true when inflation falls.
What is the impact of inflation on foreign exchange?
Although it may seem counter-intuitive, high inflation in a country pushes up the value of its currency and vice versa for lower inflation. This is because the central bank will normally raise interest rates to combat the higher inflation, which attract more global capital inflows from investors looking for a lucrative place to park their money.
How does inflation influence the price of Gold?
Formerly, Gold was the asset investors turned to in times of high inflation because it preserved its value, and whilst investors will often still buy Gold for its safe-haven properties in times of extreme market turmoil, this is not the case most of the time. This is because when inflation is high, central banks will put up interest rates to combat it.
Higher interest rates are negative for Gold because they increase the opportunity-cost of holding Gold vis-a-vis an interest-bearing asset or placing the money in a cash deposit account. On the flipside, lower inflation tends to be positive for Gold as it brings interest rates down, making the bright metal a more viable investment alternative.
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