Pound Risks Weakness as Bank of England Tipped to Reject Rate Hike Bets

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Traders think interest rate rises are unavoidable, but expect the Bank of England to push back.

The Bank of England is expected to leave interest rates unchanged next week and fight market bets for at least two hikes before the end of the year.

Such a challenge would mean next Thursday presents 'dovish' risks for the British pound.

"Financial markets are once again pricing upwards of two Bank of England rate hikes this year. Governor Andrew Bailey won't like that," says James Smith, Developed Markets Economist at ING Bank.

The pound has firmed against the euro over the past week as a set of above-consensus economic data prints crystallise expectations that the next interest rate moves from the Bank will be up.

UK CPI inflation rose to 3.2% y/y in March, according to data released earlier this week, while services inflation, considered a truer gauge of domestic inflation dynamics, unexpectedly rose 4.5% against a consensus estimate for 4.3%.

"The UK MPC will remain divided on the challenges of inflation persistence, which the last inflation report will not have helped with given the quickening of services prices," says a note from Lloyds Bank out this Friday.

UK bond yields have risen in response to these figures, which means monetary conditions in the UK have naturally tightened, without the Bank having to do anything.

And with oil and gas prices settling, albeit at high levels, some at the Bank of England might be inclined to push back more actively against rate hikes.

"After last month’s surprising show of unity, we expect the old divisions among committee members to come back to the fore. Though the framing has naturally shifted from “cut or hold” to “hold or hike”, we’d expect the prior doves to place more emphasis on the differences with 2022 at this meeting than they did at the last," says Smith.

ING says it doesn't think the Bank will hike rates this year and rates will stay at 3.75% for the rest of 2026.

If correct, that means market implied rate expectations can correct lower by at least 50 basis points. The rule of thumb is that this, in isolation, would weigh on the pound.

If that repricing starts next Thursday, the pound could give up some of its recent gains against the euro and extend a budding downtrend against the dollar.

Bear in mind, however, that Thursday also sees the European Central Bank make its decision, ensuring we can look forward to a day with many moving parts that will offer up some volatility in GBP/EUR.

"The tone at the ECB is likely to be more cautious, with the Governing Council set to repeat it willingness to tighten policy as needed," says Lloyds Bank.

If the outcome is a 'hawkish' read on the ECB and a 'dovish' read on the Bank of England, then we're looking at a classic divergence in favour of the euro.