Sterling Strengthens as Bank of England Holds Firm

Pound climbs on resilient labour market data

Sterling pushed above $1.36 this morning, extending last week’s strong performance to its highest level since early July. The rally was underpinned by fresh UK labour market figures, which reinforced expectations that the Bank of England (BoE) will keep interest rates unchanged for the time being.

Regular wages, excluding bonuses, grew 4.8% in the three months to July. While this marks the slowest pace since May 2022, it still sits well above the level consistent with the BoE’s inflation target. Both public and private sector pay growth eased, yet remains elevated enough to keep policymakers cautious on the outlook for inflation.

The unemployment rate held steady at 4.7%, in line with forecasts and the highest since mid-2021. At the same time, employment rose by 232,000, signalling a labour market that is cooling but still resilient. This combination suggests wage-driven price pressures remain a risk, giving the central bank reason to maintain its current stance.

For now, markets expect the BoE to adopt a wait-and-see approach, with rate cuts firmly off the table. The policy divergence with the US Federal Reserve, alongside limited domestic fiscal concerns, continues to lend support to GBP/USD.

Dollar Weakens Ahead of Federal Reserve Meeting

Investors eye rate decision and updated forecasts

The US dollar slipped to its lowest level in nearly two months as Treasury yields retreated and traders positioned ahead of Wednesday’s Federal Reserve meeting. A 25-basis-point rate cut is fully priced in, while the probability of a larger half-point move has diminished following signs of a softer labour market.

Attention will centre on the Fed’s updated economic projections and the likely path for interest rates. Markets anticipate continued easing through the remainder of the year, though the balance of voting among FOMC members will be closely scrutinised. A three-way split has not been seen since 2019, and any signs of division could heighten market volatility.

Investors are also watching whether Stephen Miran’s confirmation as a Fed governor will occur in time to influence this week’s decision.

Beyond the meeting, upcoming US data will shape sentiment further. August retail sales are due Tuesday, followed by weekly jobless claims and July’s Treasury International Capital (TIC) flows on Thursday. A surprise jump in claims last week briefly weighed on the dollar, while TIC flows will be studied for any shift from hedging to outright selling of US assets by foreign investors.

Despite dollar weakness, equity markets remain buoyant, with record highs and robust demand for carry trades reflecting investor confidence in a 125–150 basis-point easing cycle. However, history suggests that a stronger-than-expected US growth outlook could challenge the prevailing bearish consensus on the dollar later this year.

Euro Finds Support in ECB Rhetoric

Policy divergence favours EUR/USD

The euro started the week on a firmer footing, with EUR/USD rising around 0.3%. The move reflects expectations of a dovish message from the Fed, weighing on the greenback, alongside a more hawkish tone from the European Central Bank (ECB).

ECB board member Isabel Schnabel cautioned on Monday that food inflation is once again climbing, which could influence consumer expectations. She also pointed to a rebound in domestic demand despite global headwinds. Her comments echoed President Christine Lagarde’s remarks last week, underlining the ECB’s cautious but firm stance.

If the Fed signals deeper easing than markets currently anticipate, EUR/USD could extend gains towards the 1.18 area, revisiting its July high near 1.1830. Political risks in France remain contained for now, despite Fitch’s downgrade and recent moves in bond yields. Nevertheless, investors will be keeping an eye on upcoming rating reviews by Moody’s and S&P in late October and November.

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