GBP/USD bounce sputters as expected BOE-Fed interest rate liftoff gap narrows

After “The Week of the Central Banks” last week, this week is undoubtedly “Inflation Week” for forex traders. As my colleagues Matt Simpson (“China A50 Breaks Lower as Producer Prices Hit 26-Year High”) and Joe Perry (“US CPI: Highest level in nearly 30 years! Gold near 5-month highs“) have noted, price pressures are accelerating to multi-decade highs in both the US and China, the world’s two largest economies.

The US CPI report is particularly interesting, as traders are now wondering whether sustained inflation readings near this level (or even continued acceleration in price pressures) could prompt the Federal Reserve to accelerate its tapering program in the coming months or even raise interest rates in the first half of next year, before tapering is complete. For a central bank that many analysts (myself included) assumed was on cruise control for the next eight months as recently as the start of this week, this would be a major development indeed.

Not surprisingly, the greenback is the strongest major currency on the day on the back of this morning’s CPI report, rising between 10 and 100 pips against each of its major rivals as we go to press. While we’re highlighting changes in expected monetary policy, perhaps no major currency pair has been impacted more than GBP/USD.

At this time last week, traders were expecting the Bank of England to raise interest rates imminently and the Fed to be on cruise control until next July at the earliest; following last week’s relatively dovish BOE meeting and this morning’s hot US inflation report, that gap in interest rate hike expectations is narrowing. While it still appears likely that the BOE will achieve “liftoff” before the Fed, GBP/USD remains under pressure as traders reassess the length of the lag between the two “Special Relationship” countries.

Looking at the chart, GBP/USD continues to put in lower highs over the past several months, and October’s counter-trend bounce has alleviated the oversold condition in the unit. From here, a confirmed breakdown to new year-to-date lows below 1.3412 would open the door for a continuation to the downside, with no notable support levels until the 38.2% Fibonacci retracement of the 2020-2021 rally below 1.3200. As long as the pair is unable to maintain rallies above its 100-day EMA (currently around 1.3730), the path of least resistance will remain to the downside.

Source: TradingView, StoneX

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