If the Fed, looking at the strong U.S. economy, can afford to tighten monetary policy, then the Bank of England should think three times before continuing the cycle of monetary restriction. It started in December, when BoE, unexpectedly for most investors, raised the repo rate from 0.1% to 0.25%. Now the markets are demanding a continuation of the banquet - their expectations of further growth in borrowing costs pushed the GBPUSD quotes above the base of the 34th figure.
The pandemic presented central banks with a difficult choice: either to start actively fighting inflation, or not to further slow down GDP growth, which is caused by the depletion of fiscal stimulus. Even before Omicron appeared, the British economy was losing steam. In the third quarter, it expanded not by 1.3%, as initially expected, but by 1.1%. Increasing the number of COVID-19 infections to record highs and imposing restrictions risk exacerbating the situation. No matter how Britain falls into recession.
The recovery of gross domestic product in Britain is slower than in the eurozone, not to mention the U.S. or China.
Dynamics of the recovery of the world's major economies
The reasons should be sought not only in COVID-19 but also in Brexit. In fact, the pandemic masked the problems associated with leaving the EU, but sooner or later they had to surface. The outflow of labor that local businesses relied on to Continental Europe and bureaucratic red tape exacerbated supply chain difficulties and fueled inflation and slowed foreign trade. Since 2016, when the decision was made to part with the European Union, the GDP of Britain has grown by 3.9%, while its American and European counterparts have grown by 10.6% and 6.2%, respectively.
The risks of stagflation in Britain are significantly higher than in the United States or the eurozone, the more surprising the Bank of England's decisions to abandon QE and begin a cycle of monetary policy tightening look. Its unexpected decision spurred expectations of a further 100bps hike in the repo rate in 2022. We are talking about a higher rate of monetary restriction than the Fed, should we be surprised that GBPUSD soared to 6-week peaks?
Investors also keep in mind the fact that the Bank of England is able to start winding down its own balance sheet faster than other leading regulators in the world. Indeed, according to the conditions developed by the BoE, it can stop reinvesting income from bonds when the repo rate reaches the level of 0.5%. With its growth to 1%, asset sales can start from the balance sheet.
Based on the speed of monetary restriction, the GBPUSD pair should definitely be bought. The problem is that the Bank of England has proven itself to be an extremely unreliable guy over the past two months. In November, it refused to tighten monetary policy, although everyone expected it. In December, on the contrary, it increased borrowing costs, although few predicted such a step by the regulator. What will happen in February?
Technically, the formation of the inside bar allows you to buy GBPUSD on the breakout of the resistance at 1.342 and sell the pair in case of a successful assault on the support at 1.338.
GBPUSD, Daily chart