Image source, Getty Images
- Author, Tom Espiner
- Role, Business reporter, BBC News
The pound hit its highest level against the dollar in a year on Wednesday as investors bet on UK interest rates staying higher for longer.
Fresh data on Wednesday showed the rate of inflation was proving more stubborn than expected by some analysts.
This prompted traders to cut bets on an easing of rates in August, and sent the pound above $1.30 for the first time since last July.
The pound has also been boosted by market hopes that the new Labour government will offer economic stability.
Higher rates in the UK increase the pound’s value, because it can attract more overseas investment. This creates more demand for sterling, pushing up its value relative to other currencies.
Currency markets responded by betting that UK rates would remain higher for longer.
UK inflation was steady in June, with the headline rate at the Bank of England’s target rate of 2%.
But some of the underlying measures of inflation being watched closely by Bank rate-setters remain stubbornly high.
Inflation in the services sector, for example, remained at 5.7% in June, while core inflation, which strips out the effects of more volatile items like energy prices, held at 3.5%.
Some central banks, including Switzerland, Sweden and Canada have cut rates already, but the Bank of England and the US Federal Reserve are yet to make the same move.
The International Monetary Fund raised its outlook for economic growth in the UK on Tuesday to 0.7% this year, from 0.5% in its last set of global forecasts in April.
Kit Juckes, head of FX Strategy at Societe Generale, said he didn’t think the rally on sterling would last.
However, he added that “there’s so much uncertainty in the world”, and there was stability with a new UK government helping the pound.
A hung parliament in France and upheaval in the US presidential race, with the attempted assassination of Republican candidate Donald Trump on Sunday, and doubts around the ability of President Joe Biden to serve another four years in office, have added to global market jitters.
On Wednesday, King Charles set out Prime Minister Keir Starmer’s plans to revive the economy, with a focus on delivering new homes and infrastructure projects.
Emma Wall, head of investment analysis and research at Hargreaves Lansdown, said: “Inflation in at target – and marginally down if you care about decimal places – coupled with a King’s Speech rammed full of ambitious reforms and a high growth agenda has caused the pound to bounce.”
She added that the key to sustaining the rally will be ongoing economic data, and the Bank of England’s decision on interest rates which is due on 1 August.
