The British Pound Outlook remains uncertain after the recent U.K. election and the release of the EU Referendum result. The immediate concern is with regards to a possible vote of no confidence in the May’s leadership, which could lead to the breakdown of the union. The possibility of a mandate for another hung parliament has also been discussed. The possibility of an extended period of economic recession has prompted the Bank of England to increase interest rates. However, all these factors are yet to be confirmed.
If the BoE lowers interest rates it will have a major negative effect on the economy. It will reduce the demand for the British Pound, which would lead to a depreciation in the exchange rate against the Dollar. This could lead to a reduction in the income of exporters, reducing London’s competitiveness.
A weaker Pound would mean that imports would rise as the price of import rises. This would result in an increase in the deficit, which in turn, would bring down the International Financial Services sector. The weaker the currency, the more likely it is that exports will decline, albeit temporarily. If the BoE cut rates, it will have a adverse effect on the competitiveness of the UK economy. To replace the lost competitiveness, the UK needs to boost its economy with more robust investment. For this to happen, investment in infrastructure projects needs to be stepped up rapidly.
If Sterling loses ground against the Euro, the UK may find that it has to accept a trade deficit with the European Union, resulting in further depreciation of the pound. Sterling may lose further ground against the USD and become less beneficial to exporters. Sterling may also continue to lose against the EUR/GBP, unless a new agreement is made with the EU.
The Bank of England has made it clear that it will retain its base rate for an extended period. However, it is unclear whether this will have any long-term adverse effects on the economy. If the BoE believes that a hike in interest rates by the US Federal Reserve could have negative effects on the UK economy, it will hold its base rate steady.
The BoE will probably wait until the Bank of England has raised interest rates by another 50 basis points before it makes any changes to the BoE’s current outlook on the economy. In the meantime, the Bank of England will keep a grip on the base rate to avoid any shock to the economy. There are mixed signs for the economy and inflation may rise only marginally from current estimates, but the impact on households’ discretionary income will be felt in the coming months.
The Bank of England’s decision to retain the base rate has implications for the financial markets. Households’ wealth is tied to the equity in the UK economy and any fall in the value of sterling will affect the availability of loans for most individuals. Sterling may weaken against most major currencies following the decision and the Bank of England has made contingency plans to ensure that the effect of any increase in inflation is limited. As the BoE prepares to raise interest rates, the Bank of England will need to provide evidence that it is considering a robust rate set against the backdrop of weak global growth.
Uncertainty around the outlook for the British economy is worrying for many analysts. With unemployment rising, inflation rising and interest rates rising over the past year, the degree of uncertainty is at an all time high. The BoE has issued statements indicating that it is expecting an increase in GDP growth of up to a maximum of 1 percent this year and a further boost to GDP growth next year of between one and two percent. Uncertainty about the direction and magnitude of the recovery is worrying for investors as it casts doubt on the ability of the British economy to regain its momentum after two successive years of lost growth. If the Bank of England’s official interest rate predictions are borne out by the Bank of England’s quarterly statistics, it would suggest that there is little chance that the Bank of England will be reducing interest rates anytime soon.