GBP USD Exchange Rate Trends Higher on Stronger UK Manufacturing Sector

November 1, 2017 - Written by Frank Davies

STORY LINK GBP USD Exchange Rate Trends Higher on Stronger UK Manufacturing Sector

An unexpected uptick in the UK manufacturing PMI for October helped to support the Pound US Dollar exchange rate, encouraging greater confidence in the domestic outlook.

The index strengthened from 56.0 to 56.3 on the month, indicating that the manufacturing sector is continuing to experience solid growth in spite of persistent Brexit-based uncertainty.

As Rob Dobson, Director at IHS Markit noted:

‘UK manufacturing made an impressive start to the final quarter of 2017 as increased inflows of new work encouraged firms to ramp up production once again. The sector looks to be achieving a quarterly rate of expansion close to 1%, therefore sustaining the solid pace of growth signalled by the official ONS estimate for the third quarter. The domestic market remained strong, whereas new export orders increased at a slightly slower pace, the latter showing signs of being hit by the recent strengthening of Sterling.’

This stronger showing suggests that the Bank of England (BoE) is more likely to raise interest rates tomorrow in line with market expectations, limiting the downside potential of GBP exchange rates.

Demand for the US Dollar, meanwhile, eased somewhat as market jitters mounted in anticipation of the Trump administration announcing its choice for the next Federal Reserve Chair.

As the more dovish Fed governor Jerome Powell appears to be the current front-runner this has muted the appeal of the ‘Greenback’, undermining the likelihood of a faster pace of monetary tightening over the coming year.

USD Exchange Rates Muted Ahead of Fed Meeting

The mood towards the US Dollar could still pick up tonight, however, as a result of the latest Federal Open Market Committee (FOMC) policy decision.

So long as the Fed continues to pave the way for a December interest rate hike then the GBP USD exchange rate may struggle to find additional traction overnight.

Even so, there is the potential for ‘Greenback’ bearishness if the outlook of policymakers proves less hawkish than expected.

Any indications that the central bank is likely to take a less aggressive approach towards policy tightening could weigh heavily on USD exchange rates in the short term.

As James Knightley, Chief International Economist at ING, commented:

‘Financial markets remain sceptical over the Federal Reserve's predictions for the path of monetary policy. Uncertainty over who will lead the Fed, low inflation and some concerns about a potential government shutdown in December goes some way to explaining this.

‘However, with Fed officials broadening out the factors justifying tighter monetary policy, such as financial stability and financial conditions, and with growth looking strong and inflation edging higher, we think a December rate hike looks probable. We are a little more cautious in 2018, predicting two 25bp hikes versus the Fed’s forecast of three. This reflects our belief that a steeper yield curve caused by the Fed’s balance sheet shrinkage programme and ECB tapering at the margin will reduce the need for action at the short-end of the curve.’

Nevertheless, as long as US data continues to paint a relatively strong picture of the domestic economy the ‘Greenback’ is likely to retain some degree of support.

BoE Rate Hike Forecast to Support Pound Demand

The strength of the GBP USD exchange rate is likely to falter as anticipation builds for Thursday’s Bank of England (BoE) policy decision, even after the positive manufacturing data.

While markets are still largely confident that the Monetary Policy Committee (MPC) will opt to raise interest rates from their current record lows this is still far from a gone conclusion.

Some policymakers have expressed scepticism over the need for imminent policy action, given the ongoing wage squeeze and the nature of the recent inflation increase.

This is likely to temper any BoE hawkishness, limiting the prospect of any rate hike being the start of a more sustained monetary tightening cycle.

On the other hand, if Governor Mark Carney adopts a more optimistic tone this could encourage Sterling to make further gains ahead of the weekend.

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TAGS: Pound Dollar Forecasts