British Pound Extends Gains, Fed Decision Looms

• US inflation dips
• Federal Reserve expected to pause rates
• BoE feels pressure after sizzling UK jobs report

The British pound is in positive territory on Wednesday. In the European session, GBP/USD is trading at 1.2645, up 0.27%. The pound surged close to 1% on Tuesday, after a red-hot UK employment report and the drop in US inflation.

Federal Reserve likely to pause

The US inflation report made headlines as inflation fell from 4.9% to 4.0%. That was of course good news, but not the whole story. The drop in headline inflation was primarily due to lower food and energy prices, as the core rate decline was modest – from 5.5% to 5.3%. Core CPI levels remain incompatible with a 2% inflation target, which means that more rate hikes could be on the way after today’s expected pause.

The markets have priced in a pause at close to 100%, meaning it would be a stunner if the Fed raised rates. Still, with Fed members split on whether to pause or continue hiking, Jerome Powell could choose the middle path and deliver a ‘hawkish skip’, whereby the Fed takes a breather but sends out the message that the current tightening cycle is not over. The Fed decision is likely a foregone conclusion, but the rate statement and Powell’s follow-up remarks will be a must-watch.

UK jobs report puts pressure on BoE

Tuesday’s UK employment report was solid, as unemployment fell, employment numbers hit a record and wage growth climbed higher. Once upon a time, such data would have been cheered, but that’s not the case at a time when inflation remains frustratingly high and strong job numbers likely mean more rate hikes.

The Bank of England has tried to do its part by raising interest rates at twelve consecutive meetings. The aggressive tightening was supposed to cool the economy and dampen the labour market, which would then push inflation lower. To put it mildly, the plan hasn’t quite worked out as planned. The economy has not slowed as much as expected and the employment market remains robust, as seen in Tuesday’s employment report.

BoE policy makers appear to have little choice other than to raise rates, but that will make a soft landing a difficult task. The BoE meets on June 22^nd and may deliver an oversize 50-basis point hike, which we haven’t seen since December 2022.

GBP/USD Daily Chart

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