GBP/USD forecast: Pound drops as BoE hints at rate cuts

The GBP/USD dropped around 30 pips after the Bank of England kept rates unchanged at 5.25% as expected, in a "finely balanced" decision for some member. The FTSE climbed to a new weekly high of around 8240 in response, as investors now expect a rate cut in August. The implied off of an August rate cut has increased to 61% from 35% before the meeting, even though there was no change in the vote split. The MPC voted 7-2 to hold rates, with Dhingra and Ramadan again voting to cut rates. But the fact that this decision was "finely" balanced means the balance could shift towards a cut should economic conditions deteriorate, or inflation does not accelerate again. This explains the positive response in the FTSE, while the negative reaction in the pound underscores the short-term GBP/USD forecast. At the time of writing, we’ve just had a US data dump, which, on the whole, disappointed expectations. This helped to lift the cable off its lows, but it remains to be seen whether the dollar will stage a proper sell-off, given that it has shrugged off other weaker US data releases in the last couple of weeks, including CPI and PPI last week, and retail sales this week.

BoE not too concerned about services inflation

One of the reasons why the pound fell in response to the rate decision was the fact that the BoE does not think services inflation has altered its view significantly that the UK is on a disinflationary path. This suggests that a rate cut might be on the cards in August.

The BoE said:

"The upside news in services price inflation relative to the May Report did not alter significantly the disinflationary trajectory that the economy was on. This view was supported by evidence that the recent strength in services inflation included regulated and indexed components of the basket, and volatile components. Such factors would not push up medium-term inflation. For these members, the policy decision at this meeting was finely balanced."

"As part of the August forecast round, members of the Committee will consider all of the information available and how this affects the assessment that the risks from inflation persistence are receding."

What’s next for GBP/USD?

Well, we have just seen the release of a mini-US data dump today, which included jobless claims, building permits and Philly Fed Manufacturing Index. They all disappointed expectations.

With retail sales disappointing expectations earlier this week, too, you would expect a negative dollar reaction. Well, the dollar hasn’t reacted that way. In fact, it has risen since then. Let’s see if this latest batch of weaker data will alter the dollar’s trend. If not, the GBP/USD could head further lower in the short-term outlook in light of the UK election uncertainty and BoE’s dovish rate hold today.

Meanwhile, global PMIs, UK retail sales and US existing home sales are among the key highlights for Friday. Next week, there’s not much on the US economic data calendar until Friday’s release of Core PCE Price Index, the Fed’s preferred inflation gauge.

GBP/USD forecast undermined amid elections uncertainty

The UK’s general election on July 4 is an additional risk factor to take into account. Opinion polls continue to show a huge lead for the UK Labour Party, seen as being less business-friendly than the Conservatives. So far this hasn’t hurt the pound much, perhaps because Labour’s manifesto did not reveal any major surprise policy.

In contrast, the Tories have offered a variety of tax cuts, which could be inflationary. These include a further 2% cut to national insurance and abolishing it altogether for self-employed workers. They have also promised to abolish stamp duty for first-time buyers on homes worth up to £425,000.

GBP/USD forecast: Technical analysis

Source: TradingView.com

The GBP/USD was unable to regain broken support around the 1.2730-1.2740 area following its recovery attempt earlier this week. The short-term path of least resistance flipped to the downside ever since it failed to hold its breakout above the 1.2800 handle. It has since broken out of its bullish channel and dropped below 1.2700 handle. It looks like the cable might be heading towards 1.2635, a former resistance level. If that level fails to provide support then we could see a deeper correction towards long-term support and the 200-day average in the 1.2500-1.2500 area. So, as things stand, the short-term technical GBP/USD forecast is somewhat bearish. In light of the bearish price action, the bulls will need to see a confirmed reversal pattern now before looking for bullish setups.

-- Written by Fawad Razaqzada, Market Analyst

Follow Fawad on Twitter @Trader_F_R