23.03.2023 10:28 AM
The pound's "smile" is the opposite of the dollar's smirk. GBP on the rise

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The British currency experienced a stellar hour at one point, surging after rising consumer inflation in the UK and the Federal Reserve's decision on the key rate. However, experts fear that the pound's rise will be short-lived and unsustainable, although the latter is keen to hold on to its gains.

According to the latest report, UK consumer prices jumped by 10.4% in February compared with a year ago. This significantly exceeded January's figure of 10.1% y/y and market expectations of 9.9% y/y. However, analysts emphasize that this level is not the highest in recent months. According to experts, from October to December 2022, the inflation rate in the UK has been constantly growing. In this situation, experts pay attention to the largest gap (0.5% y/y) between the current indicator and the consensus forecast since 2009.

According to analysts, current reports from the UK indicate an increase in inflationary pressure. They believe that the Bank of England still has a long way to go in slowing down inflation. Market participants also have doubts about a steady decline in UK inflation. Currently, consumer prices are rising amid increasing labor and service costs, while the cost of raw materials and energy is gradually declining.

The Federal Reserve played a key role in strengthening the pound. As a result of the latest FOMC meeting, the US central bank raised rates by 25 bps. Against this backdrop, the sterling and the euro showed steady growth. According to analysts, the pound's initial reaction to the Fed's actions turned out to be positive, but in the future it may decline.

Experts and market participants consider the Fed's current decision as dovish. At the end of the meeting, the Fed said that they do not see the need for a permanent increase in interest rates. Instead, the Committee anticipates that some additional policy firming may be appropriate.

The Fed's new list of forecasts, which outlines potential interest rate changes in the coming months, calls for an additional rate hike before the end of this year. According to Neil Birrell, chief investment officer at Premier Miton Group, the Fed aims to "defeat inflation, avoid a recession, and make sure the current financial system is safe." This is a difficult task as recently, the central bank had to slightly soften its position on inflation. The result of this decision was an increase in the interest rate by 25 bps. Experts admit that in the near future, additional policy firming will be required.

Market participants are currently set for four rate cuts in 2023, starting in June. However, these expectations could diverge from FOMC forecasts, analysts warn. Thus, the Fed and market participants' views do not coincide on key issues that relate to interest rate dynamics. Strengthening of such trends can provoke a strong volatility in financial markets, experts warn.

Against this background, the British currency rose against the US, reaching a maximum value of 1.2304. Subsequently, the GBP/USD pair returned to 1.2290. According to analysts, now the pair can reach records of December 2022 - January 2023, when sterling rose above 1.2400. At the same time, on Thursday, March 23, the GBP/USD pair traded in the range of 1.2310-1.2311, rushing to new highs.

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The market is focused on the BoE's key rate hike of 25 bps to 4.25%. The meeting is scheduled for Thursday, March 23. Traders expect the UK macro data to play into the hands of the hawks, increasing the chances of supporters of a further rate hike. According to a number of analysts, in the near future, it is possible to increase rates by 50 bps. Such moods promote the pound's growth against the dollar.

In the current situation, sterling looks more vulnerable than the greenback. However, the pound refuses to give up and continues to boost its potential. At the same time, experts say that the greenback might strengthen its positions, if inflation in the U.S. remains high and economic growth is steady.

Recent stress in the global banking system adds more oil to the fire. According to Fed Chairman Jerome Powell, these shocks have contributed to a tightening of financial conditions, i.e. provoked a rise in the cost of borrowing and complicated the process of obtaining loans. However, such reaction from banks is quite logical, because they reinsure themselves and seek to minimize risks. Against this background, experts fear that tougher financial conditions will slow down economic growth and increase the likelihood of a recession.

Larisa Kolesnikova,
Analytical expert of InstaForex
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