The Pound to Euro exchange rate rocketed to almost 1.2030 during yesterday’s trading before closing the day just above 1.20 following record UK inflation data. UK CPI inflation measured 5.4 percent against a market expectation of 5.2 percent and Core CPI inflation recorded a 4.2% reading against an expected 3.9 percent.
The numbers quickly heaped pressure on the Bank of England as traders increased the odds of a February interest rate hike. The UK’s inflation rate is now so high, the gap between inflation and the Bank’s inflation target is at its greatest level in 30 years.
The Bank raised interest rates from 0.10 percent to 0.25 percent at December’s monetary policy committee meeting and traders are now anticipating a further 25 basis point hike on 3 February. In fact, markets are now predicting that interest rates in the UK could rise to 1.25 percent before the end of 2022.
Unfortunately for the Bank, inflationary troubles are widespread with the ONS reporting price increases in transport, food and drink, household goods, and household services, meaning this is not an isolated reading and the bank cannot easily disregard the data. In addition, the UK’s inflationary number is expected to get worse, perhaps reaching 6-7 percent before it gets better.
This is a huge problem, particularly given the Bank’s dilemma that an interest rate hike may go towards easing inflation although would squeeze consumer spending at a time when the economy is fragile.
Boris has announced an easing of “Plan B” restrictions, which will see people returning to their place of work and the government’s approach to the pandemic now appears to be one of acceptance of the virus and a learn to live with it view, which bodes well for economic outlook and the Pound’s value.
Eurozone rates set to remain on hold despite rising inflation
As is the case with most economies, the Eurozone is experiencing worryingly high levels of inflation, and markets are forecasting first and second quarter inflation figures of 4.1 percent and 3.7 percent respectively, which is well above the European Central Bank’s target of 2 percent.
The ECB’s view is that inflationary pressures are short-term, and that inflation will fall to 1.9 percent by the fourth quarter, falling back in line with their target. Hence, markets are not anticipating a rate move from the ECB until next year. The Eurozone has struggled to contain the latest Covid variant Omicron and had not got a grip of the Delta variant previously. Thus, hospitalisations have been higher in Europe and lockdown measures and restrictions have been in place slowing economic growth.
The ECB is in a difficult position as it tries to balance a fragile economy and loose monetary policy. There is a real danger that of the ECB waits too long, it could find itself in another recession at a time when other economies are on the mend.
The Eurozone is expected to now grow 4 percent and 2.4 percent over the next two years although this forecast has been revised down from a previous 4.2 percent and 2.3 percent.
US rate rise expected in March
In a week when US economic data has been light, focus has been on the rise in US yields and investors anticipate the Federal Reserve to increase interest rates in March. All eyes will be on the Fed’s meeting next week as the market seeks further clarity on the end of quantitative easing, widely expected to be March. Many already expect the Fed to raise rates in March with a further 3 rate hikes to follow in 2022.
A recent CBS poll found that US inflation, which has reached a 40 year high in the American people’s biggest concern and 65 percent do not feel the Biden government is paying enough attention to rising prices. More than 50 percent of those polled also believe that the administration is not focused enough on the economy. Biden’s overall poll rating is now at its lowest level since taking office, reading 44 percent, 18 percent lower than last March. This is not good reading for Democrats and with Biden oblivious to people’s concerns, instead focusing on legislation, Biden’s rating could sink lower.
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