The pound has become the main transmission tool for the Bank of England to loosen monetary policy because the link between U.K. bond markets and households is weaker than in the U.S., according to Morgan Stanley.
“In the U.K., the transmission mechanism is in fact sterling, so we now see sterling coming under pressure as we see the monetary policy interpretation changing,” said Ian Stannard, head of European currency strategy at Morgan Stanley in London. In the U.S., “the Treasury market is the main transmission mechanism, particularly given that the U.S. household is directly linked to the Treasury market,” he said.
The pound has slumped 8.2 percent against the dollar this year amid concern Britain’s economy will slip back into recession and prompt the central bank to extend monetary stimulus. The U.K. currency was little changed at $1.4923 as of 3:31 p.m. London time after falling to $1.4832 yesterday, the weakest since June 2010.
The use of exchange rates by central banks “has become a very hot topic” as policy makers seek other ways to stimulate economies after pushing interest rates to record lows, Stannard said at the Bloomberg FX Debate in London. “Central banks are having to look at other tools, monetary policy tools, so we’ve seen quantitative easing taking place in several countries and this starts to bring the foreign exchange into play,” he said.
The change in policy has pushed foreign-exchange reserves in some countries up to “levels that are perceived to be a risk,” he said, citing International Monetary Fund guidelines. “Within the Group of 10 we are seeing some countries approaching those kinds of levels. The Swiss National Bank is one example” after the country imposed a currency cap, he said.