British Pound weakens against US Dollar amid conflicting US-Iran headlines

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The British Pound edges lower against the US Dollar as cautious market sentiment surrounding US-Iran talks supports the Greenback. At the time of writing, GBP/USD is trading around 1.3429, remaining on the back foot for a second straight day.

GBP/USD extends losses as cautious sentiment surrounding ongoing US-Iran negotiations supports the US Dollar.
Higher Oil prices and sticky US inflation continue to support a hawkish Fed policy outlook.
Softer UK inflation and labor market data have prompted traders to scale back near-term BoE rate hike bets.

Markets reacted to conflicting headlines surrounding US-Iran negotiations. Earlier in the day, Iran’s State TV initially reported that Tehran and Washington had prepared an initial unofficial framework for a memorandum of understanding (MOU).

However, the United States later rejected the Iranian media reports, calling the alleged interim peace deal draft “a complete fabrication.” Following the headlines, the US Dollar rebounded, reversing earlier intraday losses.

The US Dollar Index (DXY), which tracks the Greenback’s value against a basket of six major currencies, is trading around the 99.20 mark after briefly slipping below 99.00 earlier in the European session.

Still, markets remain cautiously optimistic that a deal could eventually be reached as diplomatic talks between Washington and Tehran continue, despite lingering disagreements over Iran’s nuclear program and Tehran’s plans regarding control of the Strait of Hormuz. US President Donald Trump is holding a cabinet meeting on Wednesday to discuss the ongoing negotiations with Iran.

Until a final agreement is reached and the Strait of Hormuz fully reopens, Oil prices are likely to remain elevated, keeping inflation concerns in focus. The impact of higher Energy prices is already becoming visible in US inflation data, which has moved further away from the Federal Reserve’s 2% target since the Middle East conflict began.

This has reinforced expectations that the Fed may need to maintain a restrictive monetary policy stance for longer, with traders also pricing in the possibility of a rate hike by year-end, according to the CME FedWatch Tool.

In contrast, softer UK inflation and labor market data released earlier this month have led traders to dial back near-term Bank of England (BoE) rate hike bets after markets had previously priced in two to three rate increases by year-end, adding further pressure on the British Pound.

Traders now await upcoming US Personal Consumption Expenditures (PCE) inflation data and speeches from several Federal Reserve officials later this week for fresh clues on the interest rate path.

BoE FAQs

What does the Bank of England do and how does it impact the Pound?

The Bank of England (BoE) decides monetary policy for the United Kingdom. Its primary goal is to achieve ‘price stability’, or a steady inflation rate of 2%. Its tool for achieving this is via the adjustment of base lending rates. The BoE sets the rate at which it lends to commercial banks and banks lend to each other, determining the level of interest rates in the economy overall. This also impacts the value of the Pound Sterling (GBP).

How does the Bank of England’s monetary policy influence Sterling?

When inflation is above the Bank of England’s target it responds by raising interest rates, making it more expensive for people and businesses to access credit. This is positive for the Pound Sterling because higher interest rates make the UK a more attractive place for global investors to park their money. When inflation falls below target, it is a sign economic growth is slowing, and the BoE will consider lowering interest rates to cheapen credit in the hope businesses will borrow to invest in growth-generating projects – a negative for the Pound Sterling.

What is Quantitative Easing (QE) and how does it affect the Pound?

In extreme situations, the Bank of England can enact a policy called Quantitative Easing (QE). QE is the process by which the BoE substantially increases the flow of credit in a stuck financial system. QE is a last resort policy when lowering interest rates will not achieve the necessary result. The process of QE involves the BoE printing money to buy assets – usually government or AAA-rated corporate bonds – from banks and other financial institutions. QE usually results in a weaker Pound Sterling.

What is Quantitative tightening (QT) and how does it affect the Pound Sterling?

Quantitative tightening (QT) is the reverse of QE, enacted when the economy is strengthening and inflation starts rising. Whilst in QE the Bank of England (BoE) purchases government and corporate bonds from financial institutions to encourage them to lend; in QT, the BoE stops buying more bonds, and stops reinvesting the principal maturing on the bonds it already holds. It is usually positive for the Pound Sterling.