The Bank of England and the UK treasury coordinate to combat COVID -19

Marius Paun | London, UK | Senior dealer | Thursday, 12th March 2020

In an emergency move meant to restrict the negative economic impact of coronavirus pandemic (as per the recent statement from the World Health Organization) Bank of England cut its benchmark interest rate. On Wednesday, members of the Monetary Policy Committee voted unanimously to reduce rates by 50 basis points from 0.75% to 0.25%. The move was the first by 50 basis points cut since 2009 and takes rates back down to a record low.

The decision follows similar moves around the world seen last week, most notably by the US Federal Reserve, the Reserve Bank of Australia and the Bank of Canada. Governor Mark Carney admitted ‘the economic shock could be large and sharp’, and is expected to hurt both demand and supply in the UK, but he did appear optimistic that ‘it should also be temporary’. He added that if needed, the central bank stands ready to cut rates even further, below 0.25% although he seemed in favour of maintaining them above 0.

The Bank of England also announced a new $100 billion funding scheme to support small and medium-size companies combined with new measures to stimulate commercial banks to lend more ($190 billion). Interestingly enough, the central bank warned the newly released funds should not be used to increase dividends or bonuses. Governor Carney was also adamant that fiscal policy is very important to complement BOE actions. That’s why he and his team were coordinating with the UK Treasury to make sure the overall measures will have the maximum impact.

Reaction among investors and analysts was rather mixed. Many were questioning the timing of the rate cut, expressing views that it came too soon. They were wondering what measures could the BOE/UK Treasury take if the demand gets a lot weaker and markets continue to plunge. Jim O’Neill, chairman of UK thinktank Chatham House asked ‘if we are now trying to encourage people to stay at home and not to travel, what’s a rate cut supposed to do?’

Hours later on the same day, the newly appointed UK Chancellor Rishi Sunak delivered his first Budget announcing in the House of Commons a massive £30 billion stimulus spending package. It was dubbed a big deal, comparable in size with the stimulus put together by Alistair Darling, the UK Chancellor during the 2008 financial crisis.

Chancellor Rishi Sunak also acknowledged the coronavirus will be ‘disrupting the UK economy temporarily’ already displaying signs of sluggish growth, in line with the rest of the world. His prognosis is that the coronavirus will cost the UK economy in the region of £7 billion and has cut the GDP growth forecast from 1.4% to 1.1%. Among the measures announced in the Budget:

  • Will provide temporary loans to business
  • Local authorities will administer a £500 million hardship fund
  • All those advised to self-isolate will benefit from statutory sick pay
  • The business rate for small business will be abolished for a year
  • The UK government will allocate $175 billion for infrastructure projects over the next 5 years

Both announcements failed to alleviate the UK markets with pound sterling continuing its slump against the dollar. GBPUSD dropped sharply from around 1.29 yesterday to around 1.2560 at the time of writing.

The chart shows the long-term trend to be bearish, the medium-term trend sideways but the short term trend has now turned bearish again. The downside momentum is indicated by the crossover of the moving averages, short term one (red line) now moving below the longer-term one (blue line). Both MA are now pointing downwards and the price is below them.

On the upside, a rally-back above 1.27 will indicate the bulls are making a comeback. That level needs to be confirmed first. Buyers could be looking at 1.2770 as the next resistance target. Both acted as good support turned resistance from mid-2018, before eventually giving way in June 2019.

On the downside, the immediate target is 1.2470 to 1.25 range which could be revisited quite soon judging by the severity of the current selloff. That will signal the bears are firmly in control and open the way for the next downside support around 1.2380 – 1.24 area. The big question is whether GBPUSD will retest the recent record low of 1.1958 seen on September 2019? That would mean the downtrend is intact despite the counter-rally since mid last year. With the coronavirus not showing signs of receding testing this level definitely remains a possibility.