The British pound advanced on Friday after the U.K. government agreed to met with the country’s independent budget experts in the wake of the volatility in the country’s currency and bond markets in the past week.
U.K. Prime Minister, LizTruss, has been under fire since the government announced unfunded tax cuts more than a week ago which sank the pound and sent bond yields soaring, with the volatility spilling over to global financial markets. The turmoil was curtailed on Wednesday when the Bank of England said it would buy bonds at “whatever scale is necessary” to restore orderly market conditions.
However, the pound
reached as high as $1.1209 in Asia on Friday, and was last changing hands at $1.1072 after a summary of the government’s meeting with the Office for Budget Responsibility (OBR) was published.
The currency traded around $1.1254 on Sept. 22, a day before the Chancellor of the Exchequer, Kwasi Kwarteng, announced that support for rising energy bills and a wave of tax cuts would require the issuance of £62 billion in government bonds.
Some analysts credited the pound’s move on Friday to the emergency meeting between newly appointed Prime Minister, Liz Truss, the Chancellor Kwarteng and the head of the OBR, Richard Hughes, according to the Guardian and other newspapers.
“Separately the Times and Telegraph report that the government is planning to increase benefits in line with wage growth rather than inflation, a measure the Times suggests will save £5 billion ($5.5 billion),” said RBC’s global market strategist Peter Schaffrik and senior associate rates strategist Megum Muhic, in a note to clients.
Kwarteng, meanwhile, has been criticized for not commissioning budget experts on his mini budget last week. While the Treasury has claimed there wasn’t enough time, the OBR confirmed in a letter to Ian Blackford MP and Chair of the Treasury Select Committee Mel Stride that it offered those forecasts on time and up to the standards needed.
The Treasury published a brief summary of the meeting on Friday morning, which sent the pound paring back down to $1.1063.
The OBR will now deliver an initial forecast from the Chancellor’s mini-budget on Oct. 7 and will set out the full timetable up to Nov. 23, when Kwarteng will set out his medium-term fiscal plan.
Neil Wilson, chief market analyst for Markets.com, said that the pound is still vulnerable to “further lurches lower” as neither the BofE intervention nor the earlier sterling rallies on Friday fixed the U.K’s systemic issues: soaring inflation, rising mortgage rates and anemic growth.
“Cable at 1.12 is not a status symbol,” he said.
“Moreover, the value of sterling really does matter in an import-dependent nation – weakness makes inflation worse (which is why central banks should be focusing on currency stability as much as rate hikes to control inflation).”
The yield on 10-year U.K. government bond
has pulled back by around 34 basis points since the central bank’s intervention. That yield was last down 87 basis points to 4.055%.
“I genuinely believe that sterling could recover sustainably if the BoE plays a good game,” said Ipek Ozkardeskaya, senior analyst at Swissquote Bank, in a note to clients.
“The BoE has a very hard task now: it must deal with the globally higher inflation – which requires a tight monetary policy, and it must deal with Liz Truss — and her spending that the market doesn’t want to finance — which requires the BoE buying bonds.”
The analyst said the central bank will likely compensate for those bond buys with steeper interest rate hikes.
“Investors now expect 125-150bp hike at the BoE’s next meeting. And [Bank of England Gov. Andrew] Bailey has no choice but to deliver, if he wants to gain investors’ confidence — that the government lost big time,” said Ozkardeskaya.
Saxobank’s head of FX strategy John Hardy said hindsight would have helped predict the seeping of the gilt market meltdown into other bond markets.
“With 20/20 hindsight, it is easy to see that the gilt wipeout saw significant contagion into other bond markets and that the stabilization of yields has likewise been global in scope,” he said in a note to clients.
Also Friday, economic data revealed U.K. gross domestic product rose 0.2% in the second quarter compared with the first three months of the year, slightly better than the 0.1% contraction previously estimated, the Office for National Statistics reported Friday.