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BoE decision a coin toss after encouraging inflation report

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By Craig Erlam  

Everyone at the Bank of England undoubtedly breathed a collective sigh of relief on Wednesday, joining the rest of us, as inflation subsided much more than expected in August.

Not only did the headline CPI rate not rise last month, as was expected, it actually fell slightly, with the core rate falling a lot. So, despite the unfavourable base effects for fuel, which many expected would lift the headline rate, price increases are finally easing at a decent rate.

There is still a long way to go and further substantial progress will likely be made in the final months of the year, but there are also upside risks, most notably oil prices.

That said, the situation in the oil market is different from the last couple of years so there isn’t cause for panic on that front, it may just complicate things on the way back to the Bank’s 2% target.

There is plenty more to celebrate in the breakdown of the data though, most notably the drop in services inflation which has been a major concern for the MPC amid soaring wages.

But with inflation falling, energy prices declining and the labour market tightness easing, there is hope that pressures will further subside.

What’s interesting is that markets now view Thursday’s BoE interest rate decision as a coin toss between 25 basis points and hold. Perhaps the MPC’s words from earlier this month in front of the Treasury Select Committee are still ringing in traders’ ears, but given the entirety of the data, I think we’re more likely to see an ECB-style dovish hike than a Fed-style stuttered exit.

Fed likely to pause

The Fed meeting was widely expected to end in an agreement not to hike interest rates this month with the key takeaway being whether they intend to again in this cycle. The ECB strongly hinted that it is probably done last week, but I’m not convinced we’ll get the same signal from the Fed and neither, it would appear, are markets.

We have seen the odds of another hike creeping up a little recently amid more resilience in the economy which will likely make the central bank a little apprehensive about declaring victory or even suggesting they believe they’ve done enough.

Oil pares gains

Oil prices were down Wednesday after ending the session in negative territory on Tuesday as well, perhaps a sign that the trend is finally starting to run on fumes.

I wouldn’t say the price has peaked, despite this sudden reversal, but perhaps it could trigger some profit-taking. What is interesting is that there was no clear shortage of momentum ahead of the reversal which may make some question how significant a correction we’re looking at.

Of course, the closer we get to $100 Brent, the more nervous some traders may get, which may show more clearly in momentum indicators.

Gold steadies

The gold rebound has stalled over the last couple of sessions with the Fed meeting likely strongly contributing to that. There was a lot of uncertainty ahead of the decision, not to mention the new economic projections and dot plot, so it’s probably not surprising that we’re seeing some caution.

Arguably the most realistically favourable outcome for gold may be a pause and an ECB-like declaration that they’ve done enough, although with so much to absorb from the meeting, there will be other drivers too.

 

Craig Erlam is Senior Market Analyst, UK & EMEA at OANDA

Opinions are the author’s, not necessarily that of OANDA Global Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. Losses can exceed investments.