Why BoE May Have to Stay Dovish

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Market Drivers Nov 05, 2015

Subdued session but USD/JPY creeps towards 122.00
EU Retail Sales -0.1% vs 0.2% eyed
BOE on tap
Nikkei 1.00% Europe 0.28%
Oil $47/bbl
Gold $1107/oz

Europe and Asia:
EUR EU Retail Sales -0.1% vs. 0.2%

North America:
GBP BOE rate announcement 7:00

GBP BOE Presser 7:45

USD Weekly jobless 8:30

CAD Ivey PMI 10:00

It been a subdued night of trade in the currency market as traders awaited the BOE rate decision and presser due at 12;00 GMT and while USD/JPY continued to creep higher in reaction to solid US data yesterday that increased expectations of a Fed hike in December.

The eco calendar was barren today with exception of EU retail sales which missed their mark at -0.1% versus 0.2% eyed confirming the ECB view that final demand in the EZ remains tepid at best as growth proceeds at a moderate pace.

The focus in early North American trade today will be in BOE and Governor Carney’s presser as the MPC officials try to set the proper expectations for an exit from QE. Overall the UK economy has been one of the better performing members of the G-7 universe and on fundamental factors alone a strong can be made that the BOE could begin the normalization process now. Job growth, wage growth and final demand have all improved over the past few months while PMI remain comfortably above the 50 boom/bust line.

However the BOE has been reluctant to even hint at a timeline for normalization due to several concerns. With ECB pursuing an aggressive easing policy EUR/GBP now finds itself near recent lows and UK monetary officials are concerned that any tightening could push the pair towards the .6500 level making the country’s exports highly uncompetitive. Those fears have been allayed somewhat by the better than expected PMI Manufacturing figures which showed healthy growth despite a strengthening currency regime.

Of much greater concern to UK monetary officials is the talk of UK exit for EU colloquially known as “Brexit”. Although few analysts believe the UK would leave the union, the mere prospect of an exit has cast a pall on cable. Morgan Stanley for example estimated that UK growth would fall to 1% in the year following the move and foreign direct investment would plunge. More importantly, London’s pre eminence as the financial hub of Europe would be threatened which could forever damage the UK economy.

Although MS puts the odds at such an outcome at only 35%, the MPC officials are no doubt reluctant to initiate any policy change that would only exacerbate the economic turmoil that would accompany such an event.

In the very near term the focus will be on economics rather than politics and the market will try to gauge Governor Carney’s views on growth going forward. We continue to believe that the BoE will not move on rates until the Fed makes the policy change first, but if Mr. Carney suggests that he may be open to such a scenario cable could soar on expectations with the pair quickly targeting 1.5500 by day’s end.

Boris Schlossberg
Managing Director

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