Despite a harrowing start to the week, the pound looks set to wrap up the week higher than where it was on Friday against the dollar and euro. The Monday open in markets was catastrophic, there’s no hiding from that. However, the BOE stepped in and provided much needed calm in the gilt market and that is translating to the pound finding some confidence as well.
That said, month-end and quarter-end flows are also making it tough to really get a grip on what’s driving the rebound with the dollar also losing some ground in the past few sessions. However, the quid continues to exhibit plenty of volatility and that is not exactly a sign that things are healthy with regards to trading sentiment.
Today itself, we saw cable drop from 1.1140 to 1.1079 in a jiffy during Asia trading. Sure, liquidity conditions may be scarcer then but still it serves as a reminder that traders are crying out for some kind of stability with regards to the pound at the moment. And the fact that the UK government and BOE are not really offering a sense of coherence in terms of policy setting is making it challenging for the market environment as well.
With GBP/USD seeing a strong rebound from below 1.0400 to near 1.1200 at the moment, what’s next for the pound?
You can look at the BOE’s actions as either being defeated and having to step in to introduce some form of yield curve control to calm markets, or perhaps they are just doing their job as being a lender of last resort and preventing solvency issues. Either way, both aren’t exactly what you would call an assuring situation with regards to the gilt market currently.
Sure, we’re not seeing an implosion but on the balance of things, there is still plenty to be worried about for the UK economy moving forward. Policy incoherence, plunging confidence in the government, soaring inflation
Inflation
Inflation is defined as a quantitative measure of the rate in which the average price level of goods and services in an economy or country increases over a period of time. It is the rise in the general level of prices where a given currency effectively buys less than it did in prior periods.In terms of assessing the strength or currencies, and by extension foreign exchange, inflation or measures of it are extremely influential. Inflation stems from the overall creation of money. This money is measured by the level of the total money supply of a specific currency, for example the US dollar, which is constantly increasing. However, an increase in the money supply does not necessarily mean that there is inflation. What leads to inflation is a faster increase in the money supply in relation to the wealth produced (measured with GDP). As such, this generates pressure of demand on a supply that does not increase at the same rate. The consumer price index then increases, generating inflation.How Does Inflation Affect Forex?The level of inflation has a direct impact on the exchange rate between two currencies on several levels.This includes purchasing power parity, which attempts to compare different purchasing powers of each country according to the general price level. In doing so, this makes it possible to determine the country with the most expensive cost of living.The currency with the higher inflation rate consequently loses value and depreciates, while the currency with the lower inflation rate appreciates on the forex market.Interest rates are also impacted. Inflation rates that are too high push interest rates up, which has the effect of depreciating the currency on foreign exchange. Conversely, inflation that is too low (or deflation) pushes interest rates down, which has the effect of appreciating the currency on the forex market.
Inflation is defined as a quantitative measure of the rate in which the average price level of goods and services in an economy or country increases over a period of time. It is the rise in the general level of prices where a given currency effectively buys less than it did in prior periods.In terms of assessing the strength or currencies, and by extension foreign exchange, inflation or measures of it are extremely influential. Inflation stems from the overall creation of money. This money is measured by the level of the total money supply of a specific currency, for example the US dollar, which is constantly increasing. However, an increase in the money supply does not necessarily mean that there is inflation. What leads to inflation is a faster increase in the money supply in relation to the wealth produced (measured with GDP). As such, this generates pressure of demand on a supply that does not increase at the same rate. The consumer price index then increases, generating inflation.How Does Inflation Affect Forex?The level of inflation has a direct impact on the exchange rate between two currencies on several levels.This includes purchasing power parity, which attempts to compare different purchasing powers of each country according to the general price level. In doing so, this makes it possible to determine the country with the most expensive cost of living.The currency with the higher inflation rate consequently loses value and depreciates, while the currency with the lower inflation rate appreciates on the forex market.Interest rates are also impacted. Inflation rates that are too high push interest rates up, which has the effect of depreciating the currency on foreign exchange. Conversely, inflation that is too low (or deflation) pushes interest rates down, which has the effect of appreciating the currency on the forex market. Read this Term and high energy prices, the cost-of-living crisis, and now financial stability concerns all make for a poor recipe in terms of the market outlook.
I see all of that as being more of a drag for the pound, despite plenty being known unknowns i.e. likely to have been priced in. Sure, the pound may have salvaged something this week but it owes much to the BOE coming to the rescue. Surely you can’t expect the central bank to do that week in and week out, no?
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