The Bank of England kept its promise: it showed determination by raising the repo rate by 50 bps for the first time since 1995. However, the words of the regulator scared the financial markets more than its actions. BoE Governor Andrew Bailey and his colleagues predict a long 15-month recession that will begin in the fourth quarter of 2022 and end only at the end of 2023. This circumstance scared the GBPUSD bulls so much that they fled the battlefield in a panic. A strong report on the US labor market only added fuel to the fire of sales.
According to the head of the BoE, if we do not act now, tomorrow the situation will be even worse. Despite the expected acceleration of consumer prices to 13%, the Central Bank intends to return inflation to 2% in 2024, and there are no "buts" and "ifs" in this process. In fact, it is ready to bring the economy into recession but wring the neck of a high CPI. Commendable but extremely dangerous for the pound. The decline in UK GDP contrasts with the expected consensus forecasts of Consensus Economics of 1.5% for the US and 1.7% for the eurozone in 2023. UK looks the worst in the G7, both in terms of gross domestic product and inflation.
Forecasts for GDP and inflation in the G7 countries
However, Bailey does not believe that sterling is in crisis. In his opinion, the history of the GBPUSD collapse to the very bottom since March 2020 is the history of a strong US dollar, not a weak pound. In addition, the Bank of England is not guided by the exchange rate of the national currency, its task is to regulate inflation. By the way, the trade-weighted sterling exchange rate looks much better than its ratio with the US dollar.
Dynamics of the GBPUSD and the trade-weighted pound
In the week by August 12, the situation for the "bulls" in GBPUSD risks worsening. Judging by the forecasts of Bloomberg experts, Britain's GDP in the second quarter may be marked by a 0.2% contraction, while the presence of US inflation at elevated levels will push the Fed to aggressively tighten monetary policy in September. We are talking about repeating history with a 75 bps increase in the federal funds rate.
Thus, the Bank of England scared investors with talk of a long recession, and in fact it may turn out to be even longer than it expects. Raising the repo rate in such conditions will make the decline even deeper, and the GBPUSD quotes even lower. The victory of Liz Truss in the race for the prime minister's seat can also add fuel to the fire of sales. Electors are increasingly realizing that in the current environment, fighting inflation should be a priority, as Rishi Sunak insists, rather than cutting taxes.
Technically, on the GBPUSD daily chart, the failed fair value test at 1.2175 was evidence of bullish weakness. The pair is at risk of restoring the downward trend, so a successful test of supports at 1.205 and 1.2 is a reason for its sales. If the pound fans fail to hold the pivot points at 1.1955 and 1.1875, the decline will continue. Otherwise, a 1-2-3 pattern may form, the combination of which with the Three Indians is a powerful reversal signal.
