Pound improves after BoE minutes
This morning’s Bank of England minutes showed the members voted 8-1 in favour of ‘forward guidance’. The market has seen this very positive for the pound, as such we have seen GBP/EUR head towards 1.1680 and GBP/USD head back to 1.5490.
So what is forward guidance?
Effectively, it is making a promise about future interest rates. The BoE has told the market that it intends to keep this rate at its current historically low 0.5%, at least until the unemployment rate falls to 7% or below.
And why is that useful?
The Bank can only directly control the short-term interest rate. But this rate has already been cut to the lowest level that the Bank feels comfortable with.
Another way for the BoE to support the economy has been to offer an indicator, in this case 7% unemployment, by which companies and mortgage borrowers can estimate for how long such low interest rates may be around for in terms of months or years.
The logic is that if the High Street banks are convinced that they will be able to borrow overnight from the Bank of England at just 0.5% for many months to come, then they will be willing to lend money out to the rest of us for the longer term at a lower interest rate as well.
Cheaper loans will, in theory increase investment and spending and hence will encourage growth.