UK Inflation Pushes Sterling Down

The rate of inflation in July has met market expectation, with the headline rate dipping marginally to 3.1% from 3.2% in June.

Despite the slight dip, this marks the seventh consecutive month that the rate has been above 3.0%, warranting another letter of explanation from the Bank of England (BoE) Governor. Mervyn King will have to write to the Chancellor of the Exchequer explaining why inflation is more than one percentage point above target, the eighth such letter since March 2007. However, King is more than likely to simply copy and paste the last letter, as the factors underpinning the high prices remain unchanged.

Sterling suffered a brief sell-off but has recovered its losses with the market apprehensive about the Monetary Policy Committee meeting minutes due Wednesday morning.

Duncan Higgins, senior analyst at Caxton FX, said: “The rate of inflation has now fallen for the third consecutive month, which at least lends some credence to the Governor’s unwavering line that price pressures are only temporary. However, the rate is hardly dropping quickly. With VAT due to rise on 1 January, it is looking increasingly unlikely that the rate will be anywhere near the 2.0% target level for another 12 months.”

As is often the case when data meets expectation, the market reaction has been relatively limited. In lieu of last week’s Quarterly Inflation Report, the market is also aware that the BoE is unlikely to react to the high level of inflation.

“King has made clear his stance that inflation doesn’t pose a significant threat. This position is likely to be reiterated in the MPC’s minutes due for release tomorrow. With the economic outlook still highly uncertain, the Bank is no mood to tighten monetary policy, which the market now appears to have factored in,” concluded Higgins.

Sterling is continuing to trade around 0.5% lower against the euro on the day around 1.2150. Against the dollar, the pound remains virtually level on the day around 1.5670.


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