Pound Sterling rallies to 1.2850 as soft US CPI data strengthens market mood

The Pound Sterling jumps to near 1.2850 even as the UK economy remained stagnant in April.
UK Manufacturing output and Industrial Production contracted significantly in April.
Market sentiment remains cautious ahead of US inflation data and the Fed’s decision.

The Pound Sterling (GBP) rallies to near 1.2850 against the US Dollar (USD) in Wednesday’s New York session. The GBP/USD pair capitalizes on the soft United States (US) Consumer Price Index (CPI) report for May, which indicates that price pressures were softer than expected. The CPI report shows annual core inflation, which strips off volatile food and energy prices, decelerates to 3.4% from the consensus of 3.5% and April’s reading of 3.6%. In the same period, the headline inflation declines to 3.3% from estimates and the prior release of 3.4%. On a monthly basis, headline and core inflation grew at a slower pace of 0.1% and 0.2%, respectively.

The higher-than-expected decline in US inflation data for May has boosted market speculation about Fed rate cuts in the September meeting. The CME FedWatch tool shows that traders see an almost 73% chance for the Fed to begin reducing rate cuts in September, significantly up from the 52.6% recorded on Tuesday.

Volatility is expected to be high ahead as the US inflation data will be followed by the Fed’s monetary policy decision. The Fed is widely anticipated to leave rates unchanged at current levels of 5.25%- 5.50%. Therefore, investors will pay close attention to the Fed’s dot plot, which indicates where policymakers see the federal fund rate heading in medium—and long-term time frames.

Given strong labor market conditions, officials are expected to advocate for at most two rate cuts this year, compared to the three projected in March’s dot plot. However, the soft inflation report for May would increase their confidence that progress in the disinflation process has resumed.

Daily digest market movers: Pound Sterling delivers gains albeit weak UK data

The Pound Sterling strengthens against the US Dollar after the US inflation report for May turned out to be softer than expectations. Sterling has also performed strongly against other currencies despite stagnant United Kingdom’s (UK) monthly Gross Domestic Product (GDP) and weak Industrial Production data for April. The UK Office for National Statistics (ONS) reported that the economy remained stagnant, as economists expected, signaling a subdued start to the second quarter.
The UK economy failed to grow in April as a mild expansion in the services sector was offset by a decline in Industrial Production and construction output. The decrease in manufacturing sector activity was driven by lower production in the pharmaceutical and food sectors, the data showed.
Manufacturing Output and Industrial Production data, which measure factory activity, contracted at a faster pace than expected in April after expanding in March. Monthly Manufacturing Production declined by a sharp 1.4% vs. expectations of a slight fall of 0.2%. In the same period, Industrial Production dropped by 0.9% against expectations of a meager 0.1% decline.
Weak factory data suggests that households and businesses struggle to bear the burden of high interest rates by the Bank of England (BoE). This could force the BoE to start easing its monetary policy sooner. Still, other indicators may prompt policymakers to hold back calls for rate cuts. UK wage growth remains high, becoming a major barrier for the BoE to return to policy normalization. Wages rose steadily by 6.0% in the three months to April, which is significantly higher than what is needed for inflation to return to the desired rate of 2%.