Foreign Exchange Rates : Pound Rallies as BoE Predicts UK Inflation Will Break 5%

12 May 2011 at 6 AM - Written by John Cameron

STORY LINK Foreign Exchange Rates : Pound Rallies as BoE Predicts UK Inflation Will Break 5%

The Pound Euro exchange rate (GBP EUR) is 1.1504. The Pound Dollar exchange rate (GBP USD) is 1.6367.

Yesterday’s Bank of England Quarterly Inflation Report sent out mixed messages about the likely future path for UK interest rates.

The report was more pessimistic about the prospects for UK economic growth than the previous report in February, as the Bank downgraded its 2011 growth forecast from 2.00% to 1.75%.

Governor Mervyn King stated that the lower growth expectations were due to expected higher energy bills next winter, which will have a detrimental effect on UK households’ disposable incomes, causing ’very weak’ consumer spending.

However, the markets chose not to concentrate on lower anticipated UK growth rates, instead focussing on King’s comments that UK inflation will break 5% later in the year and his statement that UK interest rates ‘will have to rise at some point’. The GBP EUR exchange rate climbed from 1.1349 prior to the report, to break the 1.1500 level.

Elsewhere, there was extreme volatility in global commodities markets during yesterday’s session, as oil, gold and silver suffered their second major sell-off in the space of a week.

Oil prices on the New York Mercantile Exchange were down by 25c on the day at one point, causing trading to be temporarily halted as automatic loss limiters were triggered. This was the first halt in oil trading since panic gripped the markets at the time of Lehmann Brothers demise in the autumn of 2008. The commodities sell-off caused a flight to safety late in the European session, which saw the GBP USD exchange rate drop by over a cent.

Commodities prices over the past two weeks have increasingly been determined by pure emotion rather than economic fundamentals, suffering heavy losses one day and recovering the next session. This type of price action typically occurs at the end of a bull-run and precedes a major sell off. If the sell-off occurs then the Bank of England’s predictions that UK inflation will break 5% later in the year due to escalating energy prices may prove unfounded.

A commodities sell-off would also see the GBP AUD, GBP NZD and GBP CAD exchange rates move forward rapidly.

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