The Bank of England’s monetary policy (part two)

The Bank of England’s monetary policy affects the value of the Pound through changes in interest rate and money supply. The following rule of thumb should be used by forex traders: the Pound appreciates when interest rate expectations increase, not just from increases in the nominal interest rate.

For example, if the BOE keeps interest rates steady but issues forward guidance that they expect more interest rate hikes in future, the Pound will appreciate against other currencies. Likewise, decreases in future interest rate hike expectations, or expectations of an interest rate cut can lead to a decrease in the value of the currency.

Furthermore, higher interest rate expectations increase the value of the Pound and hit equity values, while lower interest rate expectations reduce the value of the Pound and push equity values higher.

Interest rates aren’t the only monetary policy tool that can affect the pound. Expansionary monetary policies like quantitative easing can also affect the Sterling. If the BOE announces that it plans to start a QE the pound will likely depreciate as a large amount of liquidity enters the market, increasing the supply of money in the market and leading to a decrease in interest rates, or, simply to maintain current rates.

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