Pound Creates Dilemma for Carney Tiptoeing Toward Rate Increase

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Brace Yourself for 'Super Thursday'

Mark Carney needs to be careful to not overplay his hand on Thursday talking about higher U.K. interest rates.

While the Bank of England governor wants to prepare investors for tighter monetary policy, tilting too far in that direction risks sending the pound soaring, which might derail Britain’s economic recovery.

Carney has said the era of record-low rates is approaching its end. Traders will be ready to pounce when the central bank releases a deluge of information on what’s been dubbed “Super Thursday” -- from economic forecasts and the rate decision to minutes of the policy meeting.

“Carney is unlikely to sound ever more hawkish, because to do so could be self-defeating,” said John Wraith, head of U.K. rates strategy at UBS Group AG in London. “Their chances of getting to that first hike are helped if they can tiptoe carefully toward it. If they charge ahead and say we’re going to be raising rates by the end of the year, sterling will have gone up another 5 percent, making it impossible.”

It’s Catch-22: Economists are predicting the nine-member Monetary Policy Committee that last time voted unanimously to leave rates unchanged this time will have at least two defectors who will seek higher rates. Anticipating new hawks, the pound outperformed its closest peers over the past month. That’s bad for exporters and risks muffling price growth that the BOE needs to tighten monetary policy.

Announcement at Noon

For August’s policy decision, officials gathered last week to be briefed by staff. They will vote on Wednesday and announce their decision, as well as publish their Quarterly Inflation Report, at noon in London the following day. Previously compared by a U.K. lawmaker to an “unreliable boyfriend” for his record on communicating policy, Carney will start a press conference 45 minutes later.

All but one of the 20 banks surveyed by Bloomberg predicted the MPC’s votes will be split this week. More than half forecast two policy makers will vote for a rate increase, while one predicted four officials will vote to raise.

Traders are becoming more bullish on the timing of higher rates. Forward contracts based on the sterling overnight index average, or Sonia, show they predict rates will rise in May. That’s three months earlier than implied as recently as July 10.

Gaining on Dollar

The pound is the only one of 16 major currencies tracked by Bloomberg to appreciate against the U.S. dollar in the past three months, even as most economists predict the Federal Reserve will raise its key rate first. Sterling rose 0.2 percent to $1.5594 as of 5:05 p.m. London time Thursday and strengthened 0.3 percent to 69.70 pence per euro.

Currency strength is also proving a headwind across the Atlantic. Fed Chair Janet Yellen has said that she expects the central bank to raise its benchmark rate this year. Even so, she’s noted the dollar’s advance has acted as a “drag on the economy.”

While the strength of economic data may support the case for U.K. policy makers to move before their U.S. peer, a robust pound is likely to hold the BOE back, according to Stephanie Flanders, the London-based chief market strategist at JPMorgan Asset Management.

For the two central banks’ timing, “the key difference is sterling,” she said in an interview on Bloomberg Television’s “On The Move” with Jonathan Ferro. “It is much more of a factor for the U.K. We’re a much more open economy, it has a much more direct effect on inflation, on the Bank of England’s forecasts.”

Smothering Effect

If policy makers needed reminding, manufacturing data on Aug. 3 provided fresh evidence of the currency’s smothering effect on orders from the U.K.’s biggest trading partner, the euro region. Factories saw export demand fall for a fourth month in July, according to Markit Economics, as Britain’s currency climbed to the strongest level in about seven years on a trade-weighted basis.

“His best chance of finessing it is to stress that they’re not going on a long path to significantly higher rates, or that the timing of the rate increases is very well spread out,” said Robin Marshall, director of fixed income at Smith & Williamson Investment Management LLP in London. “That might then take the sting out of the impact on sterling, but it is going to be a problem.”

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