Sterling is likely to continue its slide toward early October lows just above
1.20 as long as the UK bond market remains in turmoil, though its bounce off the
day's 14-month low of 1.2239 to a loss of less than 0.5% on the day amounted to
a temporary reprieve.
Bears appeared to cover some of their recent shorts ahead of a speech by BoE
Deputy Governor Sarah Breeden on the outlook for UK inflation and monetary
policy. However, it is unlikely her comments will do much to assuage fears of
rising UK funding costs and their deleterious effects on the economy.
The rise in UK yields to 16-1/2-year highs and subsequent drop in sterling poses
significant issues for the BoE. With inflation stabilizing above target, and the
pound dropping on mounting fiscal concerns, markets might see the BoE as loath
to cut rates for fear of re-igniting inflation. However, with the UK economy
stagnating, steady or rising inflation will act as an additional tax adding
additional downward pressure on GBP/USD.
For now, with the UK under both fiscal and monetary policy pressures, the
expected higher for longer UK yields will act as a weight on the pound. In
contrast, relative U.S. economic "exceptionalism" should keep the USD in a
leadership position versus the pound.
GBP Chart:
(Paul Spirgel is a Reuters market analyst. The views expressed are his own)