Pound Down on Emergency Rate Cut of 50bps by BoE

Pound Down on Emergency Rate Cut of 50bps by BoE
March 12, 2020

 

The pound fell sharply against the greenback after the Bank of England slashed the benchmark interest rate unexpectedly while unveiling a fresh stimulus program for small companies. The central bank chose to reduce interest rates to negate the negative impact of the coronavirus (COVID-19) outbreak. Furthermore, Governor Mark Carney stated that the Bank of England is ready to initiate additional measures to fight the economic impact of the coronavirus epidemic. From a high of 1.2976, the GBP/USD pair dropped to a low of 1.2828 in the past 24 hours.

The benchmark interest rate was unanimously reduced by 50 basis points to a historical low of 0.25% by the Monetary Policy Committee (MPC), in an atypical meeting yesterday. With a single voice, the MPC also approved a fresh Term Funding Scheme (TFSME) with extra stimulus for SMEs (Small and Medium-sized Enterprises), funded through central bank reserves.

The central bank pointed out that there is no clarity on the impact of coronavirus outbreak, but anticipates a slowdown in the economic activity. The Bank of England also explained the need to reduce interest rates: “Although the magnitude of the economic shock from Covid-19 is highly uncertain, activity is likely to weaken materially in the United Kingdom over the coming months. These measures will help to keep firms in business and people in jobs and help prevent a temporary disruption from causing longer-lasting economic harm.”

The initiatives are under the broader framework of an all-inclusive stimulus package to back the UK economy amidst the economic jolt from COVID-19. As of Wednesday, the UK had confirmed 382 coronavirus cases and six deaths. Notably, the health minister Nadine Dorries has also contracted the virus.

The exclusive initiatives were disclosed only a few hours before the budget was presented by Chancellor Rishi Sunak. The BoE stated that it would take additional steps to back the UK economy and financial system.

Economists believe that the central bank will closely monitor the situation and take additional steps, if necessary. James Smith, an economist at ING, said, “The lower bound is generally perceived to be a little above zero, perhaps 0.05 percent, which would leave another 20bp rate cut available. However, the Bank would then quickly turn to quantitative easing (QE) – probably both in the form of government and corporate bond purchases.”

In August 2018, the bank had implemented a 25 basis points hike in the benchmark interest rate. Yesterday’s rate cut will also be the final one from BoE Governor Mark Carney, who is planning to step down on March 15th. Andrew Bailey will succeed Carney. Under the TFSME scheme, the bank will award, over the next one year, four-year financing of a minimum of 5% of “participants’ stock of real economy lending at interest rates at, or very close to, Bank Rate.”

The BoE is also ready to offer additional support to banks that boost lending, particularly to SMEs. On the basis of running a similar scheme in 2016, the central bank stated that the TFSME could improve liquidity by over £100 billion.

Additionally, BoE policymakers approved to continue with investment-grade corporate bond shopping at £10 billion and UK government bond investments at £435 billion. The central bank trusts the lowering of the Bank Rate will improve business and consumer sentiment, while strengthening cash flows of enterprises and homes.

Furthermore, the Financial Policy Committee (FPC) decreased the “UK countercyclical capital buffer rate to 0% of banks’ exposures to UK borrowers from 1%.” The FPC anticipates holding the 0% rate for a minimum of one year so that any sequential increment would not become effective at least until March 2022. Earlier, the rate was forecast to hit 2% by December 2020.

The FPC anticipates the economic jolt from the coronavirus outbreak to be “sharp and large,” but “temporary.” The core banking system is not expected to be affected by the virus outbreak and should be able to satisfy the financing needs of households and enterprises during a hard time, as highlighted in the outcome of the latest bank stress tests.

The rollout of the countercyclical capital buffer will result in the release of £190 billion to enterprises in the form of bank lending, an amount equivalent to 13x banks’ net lending to companies last year. The Prudential Regulation Authority has directed banks to avoid increasing dividends or other forms of payments, including bonuses, in the light of these policy measures.

The FRA has suggested insurers to utilize the leeway in Solvency II rules to re-compute the interim steps that calm the effect of market volatility in the context of a material decline in government bond yields in the past few weeks. The minutes of yesterday’s meeting will be published tomorrow. The next monetary policy meeting is scheduled for March 25th. Governor Mark Carney has affirmed that the bank is on standby to take additional measures, if necessary, to support the UK economy. The rate cut is expected to keep the pound weak in the days to come.

Technically, the GBP/USD pair is declining after facing resistance at 1.3080. The next support is anticipated only near 1.2805. The currency pair is trading below the 50-day moving average, while the stochastic oscillator is in the bearish zone. Therefore, we are anticipating the GBP/USD pair to remain bearish in the near-term.

GBP - technical analysis - 12th March 2020

Disclaimer: Any financial trading analysis offered here is our opinion and is not intended as advice or direction for investors. We cannot guarantee the success of any trades made as a consequence of this article, and we encourage traders to incorporate a strong money management strategy to limit losses when they enter the markets. Please use this article as part of your own research before formulating strategies prior to trading.

Sammy

Sammy

Sammy is our forex expert, with over 20 years experience in the financial sector, she will be keeping you up to date with the ups and downs of currencies around the world


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