Fundamental Forecast for the British Pound: Neutral

- UK Service PMI Unexpectedly Rises, Easing Double Dip Fears
- Pound Gains as Bank of England Leaves Monetary Policy Unchanged
- UK PPI Underscores Stubbornly High Inflation, Points Away from QE

The prospect of renewed quantitative easing (QE) stands as the central concern for British Pound price action as the UK economy faces formidable headwinds amid a broad-based slowdown in global demand and the onset of the government’s ambitious austerity program. The newly minted coalition government has pledged to slash the public deficit by a hefty 6.3 percent of the economy’s total output by 2014-15, an outcome that will require substantial belt-tightening by way of spending cuts and tax hikes, amounting to hardly the ideal policy prescription given a still very fragile post-crisis recovery. It seems reasonable enough then that markets are betting on monetary policy to take up the task of preventing a back-slide into recession.

Needless to say, the US finds itself in much the same predicament, with traders increasingly convinced that the Federal Reserve will have little choice but to engage in another round of QEas the economic recovery stumbles into the end of 2010. After all, the prospect of government aid is surely nil given voter outrage with size of the public deficit after previous fiscal stimulus efforts so obviously on display going into November’s mid-term Congressional elections. To that effect, it is not surprising that GBPUSD has turned into a barometer for traders’ relative easing expectations. Indeed, the correlation between the pair and the spread between UK and US March 2011 interest rate futures stands at a whopping 0.82 on 20-day studies.

With that in mind, things are bound to get interesting with a litany of central bank officials from both the Bank of England and the Federal Reserve are scheduled to take to the wires. Looking at the US, the Fed will release minutes from its September policy meeting, while the speaking schedule looks likely to stoke QE expectations with the influential and notably dovish Vice Chair Yellen and NY Fed President Dudley set to overshadow remarks from the steadily hawkish Kansas City Fed President Thomas Hoenig. However, Ben Bernanke’s two scheduled speeches will take top billing as traders try to decipher which side of spectrum has greater influence over the Fed Chairman. Turning to the UK, the BOE’s perennial dove David Miles will be outnumbered as a speech from hawkish stalwart Andrew Sentence is reinforced by remarks from the hawkish-leaning Paul Fisher.

The data docket seems to only cloud things further. Another mixed batch of US releases is expected, with soft-ish Retail Sales set to be counterbalanced by firmer UofM consumer confidence reading while CPI and PPI results remain within the recent range of outcomes. Meanwhile, September’s CPI and unemployment figures are set to print broadly unchanged from the previous month, though core CPI is expected to revisit an eight-month low at 2.6 percent. Throwing yet more variables into the mix, the week’s proceedings will have the outcome of the weekend’s IMF and World Bank summit as their backdrop. On balance a volatile week looks to be ahead, but whether it proves to produce directional momentum or choppy sideways trade remains anybody’s guess for the time being.

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