Sterling drifts lower as BoE policymakers warn of deeper economic damage

LONDON: Sterling fell against a rebounding US dollar on Wednesday but steadied against the euro as Bank of England policymakers warned that Britain's economy could suffer more damage than anticipated by the central bank last month.

The BoE said in August it expected Britain's economy to recover to its pre-COVID-19 size by the end of next year, but Bank of England Deputy Governor Dave Ramsden told lawmakers economic output would permanently be about 1.5 percentage points lower than it would have been without the pandemic and another interest-rate setter, Gertjan Vlieghe, warned of "a material risk" it could take several years for Britain's economy to return to full capacity.

BoE governor Andrew Bailey told the lawmakers in Wednesday's closely watched online session that inflation might not be as weak as estimated by the BoE last month, citing evidence that many businesses had not passed on a value-added tax cut to customers.

The speeches from five out of the nine Bank of England monetary policy committee members were being scrutinised by investors for fresh insight on negative interest rates and clues to sterling's direction.

The BoE said last month negative rates are part of their monetary tool box but that it saw no immediate case to cut interests rates below zero.

Britain's central bank has taken rates to record lows and ramped up bond purchases this year to support an economy hit by the coronavirus and the exit from the European Union.

The speeches "are likely to keep the debate on negative policy rates alive in the UK", said Adam Cole, chief currency analyst at RBC.

Sterling fell 0.6% against the dollar to $1.3301, having risen to an eight-month high above $1.34 the day prior. The pound was flat against the euro at 88.97 pence, having risen earlier in the day to a three-month high of 88.74 pence .

"I wonder if yesterday's GBP/USD move finally flushed out the last GBP shorts," said Kit Juckes, macro strategist at Societe Generale.

Latest CFTC data showed that the leveraged funds held a very small amount of sterling short positions in the week ending Aug. 25. Fresh data which will include Monday and Tuesday this week will be released on Friday.

Trade-weighted sterling meanwhile remained range-bound, and well below its pre-Brexit referendum level. The fact that the real effective exchange rate in sterling is much lower than that in sterling/dollar indicates the recent sterling strength came solely on external factors.

"Sterling remains very weak in real effective terms which means it can only go down with the help of big short positions," Juckes said.

Recent data painted a mixed picture of the economy.

British house prices hit an all-time high in August, mortgage lender Nationwide said on Wednesday, adding to signs of a sharp rebound in the housing market after the coronavirus lockdown.

The minister of finance, Rishi Sunak, cut a tax for house purchases in July as he sought to spark the broader economy which shrank by a record 20.4% in the April-June period.

But industry data on Wednesday showed retailers discounted their goods a bit more aggressively in August than in July as they sought to lure customers back after the coronavirus lockdown earlier in the year.