Bank of England meeting in focus for GBP exchange rates

• Pound Sterling (GBP) outperforming the US dollar (USD) and euro (EUR) amid covid vaccine optimism
• British pound to Australian dollar (GBP/AUD) exchange rate higher despite the risk-on mood
• Bank of England (BoE) monetary policy statement could trigger downside in pound Sterling (GBP) if policymakers cut interest rates

Pound Sterling (GBP) has rallied to fresh highs against a host of major currencies on Monday, including the US dollar (USD), euro (EUR) and Canadian dollar (CAD).

The UK’s rapid COVID-19 vaccine rollout programme has pushed GBP higher against its major trading partners. At the same time, data showing a significant decline in daily coronavirus cases is also being celebrated by financial markets.

While Britain has the worst per capita deaths in the world, as foreign exchange (FX) markets are forward-thinking by nature, vaccine optimism is helping the British pound (GBP) advance against the euro (EUR), US, Australian and Canadian dollars.

The British pound to US dollar (GBP/USD) exchange rate rallied to USD 1.3757 earlier during the session, marking a new two-year high. Although the currency pair has depreciated slightly during midday trade, the GBP/USD cross continues to trade above the USD 1.37 level at USD 1.372.

Meanwhile, the British pound to euro (GBP/EUR) exchange rate has soared by 0.4% to EUR 1.1357, following disappointing German data. GBP/EUR could also remain elevated amid the ongoing vaccine crisis in the EU.

Pound Sterling (GBP) has also pulled ahead of high-beta currencies despite the improved music mood in currency markets.

The British pound to Canadian dollar (GBP/CAD) exchange rate broke past a critical level of technical resistance last week, which could see the GBP/CAD pair test CAD 1.77 for the first time since March 2020 in the coming days.

At the time of writing, the British pound to Canadian dollar (GBP/CAD) exchange rate is trading 0.1% higher at CAD 1.7553. However, positive coronavirus developments could trigger bullish upside in GBP, primarily due to the UK’s vaccination programme being more advanced than others.

Pound Sterling (GBP) is also trading higher against the Australian dollar (AUD) on the first day of the new trading week.

Pound to Australian dollar: GBP favoured

Although Australia’s economic outlook fares better than the UK’s, recent nerves over new COVID strains and some stock market panic last week has made investors a little hesitant to take risks.

The Australian dollar (AUD) also seems to have fallen out of favour with FX market participants amid rising expectations for more aggressive easing measures from the Reserve Bank of Australia (RBA).

Recent RBA easing speculation has triggered fresh weakness in the Australian dollar (AUD), with most analysts predicting an extension to the central bank’s quantitative easing programme.

Policymakers will also give a vital speech outlining policy settings for the year to come, which will be closely monitored by traders.

While positive vaccine news could support the “Aussie” dollar, with the UK’s vaccination rate outpacing other countries and potentially allowing UK Prime Minister Boris Johnson to reopen to economy earlier than peers, GBP could continue to outperform.

That being said, the British pound (GBP) could suffer a sudden bout of volatility over the coming week, depending on the outcome of upcoming economic data and the Bank of England’s (BoE) monetary policy decision.

GBP traders eyeing BoE policy decision and economic data

It’s a data-heavy week for the UK, with housing price indicators out on Tuesday, Services PMI figures released on Wednesday, as well as Construction PMI data and the Bank of England’s policy statement on Thursday.

All of which will provide a significant indication of how the UK economy is navigating the Coronavirus pandemic. Although IHS Markit/CIPS UK Manufacturing PMI data out today beat forecasts, the sector’s upturn has slowed due to renewed COVID restrictions, which could be a bad omen for upcoming releases.

The British pound (GBP) could also suffer a shock this week if the BoE cuts interest rates, which one analyst said could reverse pound Sterling’s (GBP) near-term appreciation trend.

Most FX market participants and economists believe  GBP will remain elevated this week, driven by a combination of broader market sentiment and expectations that the BoE will leave interest rates at 0.10% and its quantitative easing programme unchanged.

However, a surprise cut is possible given the economic fallout the third lockdown is likely to have caused. Reuters market analyst, Robert Howard, warned that “GBP could depreciate sharply if the Bank of England unexpectedly performs a negative rate cut.”

That being said, most banks are confident that the central bank will refrain from slashing interest rates into negative territory, especially with the UK’s accelerated vaccination programme taking hold.

Robert Wood, UK Economist at Bank of America, said: “We expect no policy changes from the BoE, but look for it to conclude the negative rates review by cutting lower bound to perhaps -50bp, making rate cuts the marginal tool again.”

Meanwhile, Mark Nash, head of fixed income alternatives at Jupiter Asset Management, said: “They won’t cut interest rates, but they also won’t stop the bluff.”

Ruling out cutting interest rates could be counterproductive for the Bank of England and impede its goal for growth by triggering “higher effective market rates”, said Elizabeth Martins, senior economist at HSBC Holdings Plc

Still, even if the BoE leaves its main policy settings unchanged, any dovish comments made on the outlook for the UK economy or signals towards cutting interest rates in the future could pose a considerable headwind to pound Sterling (GBP).

With UK COVID-19 cases still stubbornly high and lockdown restrictions possibly imposed until May, it seems that the only factor limiting downside in GBP is the UK’s vaccination programme.

Even though the EU has threatened to block vaccine exports to the UK following a bitter row with AstraZeneca, which backtracked on its commitments to deliver 100million doses to the bloc by March, success with Novavax’s jab could quell fears over a supply shortage in Britain.