Foreign Exchange Rate Forecasts: Central Bank decisions and effect on exchange rates

Good afternoon. In today’s post I will take a look at the actions of the UK and EU central banks, and what effect today’s announcement had on exchange rates. So let’s first look at what the Bank of England did, following by a review of the European Central Banks actions.

The Bank of England has kept interest rates at 0.5% and decided not to inject more stimulus into the economy. The decision means the Monetary Policy Committee (MPC) has now kept rates at historic lows for four years.

As you can see from the chart above, the Pound rose as a result of the news, and this is because there was the chance further Quantitative Easing (QE) would be announced to support the economy. This had been partially priced in to the rate, and so when no QE was announced, Sterling rose against the Euro and US Dollar. As we will see shortly though, rates quickly fell back again when the European Central bank announced their decision.

BoE governor Sir Mervyn King voted to increase the QE programme at the MPC's last meeting. He was among three MPC members who backed a £25bn increase in QE to £400bn, but was outvoted. The poor performance of the economy has prompted calls for the Bank of England to take a more proactive role in encouraging economic growth.

So although no more QE was announced today, it is likely more stimulus will be announced in the coming months, so the downside pressure on the Pound remains. The gains were short lived today however, as the European Central Bank (ECB) comments strengthened the Euro and caused rates to fall again…..

The European Central Bank (ECB) has kept Eurozone interest rates unchanged at 0.75% for the eighth month in a row. Rates have remained at the same level since the ECB cut rates from 1% in July last year.

The ECB's president, Mario Draghi, said they had discussed a rate cut, but the consensus was to leave them as they were. Many analysts do not expect the ECB to alter rates from their current record low until next year at the earliest.

What was interesting were his comments at the press conference afterwards. Mario Draghi said that the Eurozone’s economy would start to stabilise this year and would pick up in the second half, although downside risks remained. He said growth could return in 2014, although the forecast range was wide, between 0% and 2% growth. "Later in 2013, economic activity should gradually recover, supported by a strengthening of global demand and our accommodative monetary policy stance."

The comments pleased investors and caused the Euro to strengthen. This pushed rates back down again below €1.15 against the Euro, as the chart shows.

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