The Bank of England is gearing up for its first policy meeting of the year on Thursday, but the central bank is in the same Brexit-induced wait-and-see mode as investors, market participants said.
If it weren’t for Brexit, the bank would likely be en route to another rate hike or may have already delivered one, analysts said.. After all, the U.K. economy for much of 2018 showed signs of strength, leading some sterling bulls to the narrative that it was Brexit worries weighing on the pound given a relatively strong underlying economy and expectations for eventual rate rises.
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The Bank of England “is in wait-and-see mode, too,” just like everyone else, said Ugo Lancioni, head of currency management at Neuberger Berman, which means Thursday’s meeting likely won’t be a game-changing event.
“It remains our view that a rate hike is still on the cards for May, though this possibility may have to be recalculated if there is no material progress with respect to Brexit in the coming week,” said Jane Foley, senior FX strategist at Rabobank.
Evidence that the Brexit saga is creating a drag on the economy is becoming more apparent. The January purchasing managers indexes across Britain’s services and manufacturing sectors were weaker-than-expected, to pick one example.
At this stage, “the Bank of England is dealing with a mixed set of data, with a tight labor market and rising wages but growth surprises falling, PMIs tracking below trend and inflation set to fall towards target,” said Jordan Rochester, FX strategist at Nomura.
“The BOE have argued they cannot keep monetary policy on hold indefinitely while the Brexit risk does not affect domestic data. But that risk is clearly now weighing,” wrote Bank of America Merrill Lynch analysts led by U.K. economist Robert Wood. And the central bank “cannot now credibly signal the market is too dovish, we think, if the BOE’s forecasts do not take account of one of the biggest risks the market has to price: a disruptive Brexit,”
That leaves Carney and fellow policy makers to walk a tightrope.
The BAML analysts expect the bank to sounds dovish about the near-term but hawkish about the medium-term thanks to steady wage growth.
“But with wage growth running much stronger than the BOE expected, they should continue to signal hikes conditional on a smooth Brexit. The market may struggle to price that until the risks clear,” the analysts said.
The British pound GBPUSD, -0.1081% was little changed versus the U.S dollar on Wednesday, buying $1.2950.
While the currency has appreciated against its rivals since the start of the year, falling in line with the narrative that market participants still expect — or hope for — a soft Brexit, this could change rapidly depending on the outcome of the U.K.’s departure form the European Union.
Large swings in the currency would have a bearing on British inflation, so the Bank of England will be watching the pound closely as it could be a game changer for its policies, Foley said.
The BOE’s monetary policy decision and inflation report will be released at 7 a.m. Eastern (12 p.m. London time) on Thursday.
Also on Thursday, Prime Minister Theresa May will be heading to Brussels to push for changes in an existing divorce deal that, according to the European Union, isn’t open for re-negotiations but has been rejected by U.K. lawmakers. May is due to provide Parliament with an update to her Brexit plans on Feb. 13. The U.K. is due to exit from the EU on March 29.
Parliament has expressed its desire to avoid a hard Brexit in votes at the end of January, but lawmakers’ dislike of the deal has resulted in gridlock.
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