Inflation is the Buzzword as Pound Rebounds on BoE Minutes

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Market Drivers November 19, 2014

BoE shows a wide range of views on inflation cable bounces to 1.5670

BOJ confirms its monetary targets USD/JPY at fresh highs

Nikkei -0.32% Europe .19%

Oil $74/bbl

Gold $1197/oz.

Europe and Asia:
AUD LEI 0.0% vs. -0.1%
GBP MPC wide range of views

North America:
USD Housing Starts 08:30

USD FOMC Minutes 14:00

Cable rebounded strongly in morning London trade today when the BoE releases its minutes which were not nearly as dovish as the market expected. The BoE minutes showed a wide range of views with some officials becoming concerned that falling unemployment could quickly reduce slack in the economy and push prices higher while other MPC members remained concerned about the slowdown in EZ growth and its impact on the UK economy.

Some policy makers questioned the inflation dampening impact of higher currency exchange rates while others expressed worry that lower inflation expectations could create a self fulfilling prophecy of disinflationary pressures.

The mixed nature of the minutes caught the market by surprise, with most traders expecting a uniformly dovish posture from the BoE given the weakening in recent economic data and the absence of any inflationary pressures. However, the policymakers appeared to be looking through the temporary lull in demand and focusing on the consistent UK GDP growth which has steadily reduced unemployment and could begin driving wages higher.

However, until and unless wages show material appreciation the BoE is unlikely to make any moves on the interest rate front as inflationary measures remain well below central banks target rate of 2%. Nevertheless, today’s minutes clearly showed that the BoE is fully committed to hiking rates and normalizing policy as soon as they perceive that such a move would not hurt the recovery and that fact alone was good enough to turn the market around with cable rebounding strongly off the 1.5600 level to trade all the way 1.5690 by mid morning London dealing.

Elsewhere USD/JPY made fresh year to date highs rising to 117.65 after the BOJ reaffirmed its commitment to its expansionary monetary policy that will expand the base by 80 trillion yen per month. However, the move towards the 118.00 figure is likely to be determined by the release of the FOMC minutes later today. The Fed much like the BoE will be focused on inflation. The US 5 year-breakeven are forecasting only 1.53% versus the 2% target rate while the 10 year remains mired near the 2.30% level. With US fixed income markets utterly unconcerned about inflationary pressures and with sharp decline in oil prices adding to the disnlfationaty dynamic it is diffcult to see how the Fed would adopt a hawkish view in its deliberations of policy.

However, if US policymakers much like their UK colleagues decide to look through the current low price environment and choose instead to focus on the persistent US growth prospects, the markets are likely to respond by lifting USD/JPY to 118.00 as that would indicate that the Fed is on track to hike rates in Q1 of 2015.

On the other hand any deliberation of low inflationary environment would put the focus squarely on US CPI figures tomorrow and could send USD/JPY back below the 117.00 level.

Boris Schlossberg
Managing Director

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