Fundamental Outlook for British Pound: Bearish

- Annual Economic Growth Falls -1.9% in Q4, Most in 17 Years
- Consumer Confidence Holds Near Record Low in February

The interest rate announcement from the Bank of England clearly takes top billing on next week’s economic calendar. In theory, the stagnant economy and a dropping inflation rate give policymakers ample reason to continue easing. Indeed, Producer Prices are set to slip to an 18-month low at 3.1% in the year to February, foreshadowing that the slide in consumer price growth (the headline inflation gauge) will continue as firms pass on lower manufacturing costs through cheaper finished products. Meanwhile, a likely drop in business sentiment across February’s PMI readings points to more job cuts, weaker spending, and a deeper slump in economic growth. GDP fell -1.9% in the fourth quarter, the largest drop in over 17 years, while the International Monetary Fund has said that the UK faces the worst recession among the G7 nations.

This backdrop has culminated in economists’ expectations of a 50 basis point reduction borrowing costs to bring rates to a new historic low of 0.50%. Importantly, the market looks unconvinced for now as overnight index swaps show traders pricing in a neutral outlook for the next 12 months. This is not without reason: minutes from the last policy meeting revealed a reluctance to take rates lower for fear that this would hurt bank profitability. Rather, the MPC voted unanimously to seek government approval for quantitative easing. On the other hand, a pair of statements from BOE officials this week bolstered a dovish bias: Andrew Sentance warned of deflation and said there is “a strong case for providing additional stimulus” while David Blanchflower called monetary policy "overly restrictive". All told, British Pound volatility is the one thing that can be reasonably expected in the coming week as the multitude of conflicting leads ahead of the BOE announcement is sure to catch at least some market participants off-guard.

As has been typical in recent weeks, risk sentiment will be the wild card in shaping price action as GBPUSD remains 93% correlated with the Dow Jones Industrial Average and 96% correlated with the MSCI World Stock Index. Global equities shed another 3.4% last week to close below the previous swing low registered in the week ending 11/21/08. Should risky assets retain downward momentum, the British Pound may well follow suit.

Jamie Saettele is a Technical Currency Analyst for FXCM.