Pound reaches two-year high as Bank of England holds interest rates steady

The pound rose to its highest level since March 2022, breaking through the $1.33 level, after the Bank of England decided to keep interest rates steady at 5 percent and indicated a gradual approach to easing monetary policy.

Sterling rose about 0.7 percent against the dollar, to $1.331, after the central bank’s decision on Thursday. Sterling also rose about 0.3 percent against the euro, to €1.19, its highest level since July. The rise came after the US Federal Reserve cut interest rates by a larger-than-expected half percentage point earlier in the week.

Higher interest rates tend to boost the value of a currency by attracting investors looking for better returns. Although the UK has slowed its rate-cutting cycle compared to the US and the eurozone, traders expect the Bank of England to cut rates again only in November, keeping sterling competitive. Nomura analysts have forecast the pound could hit $1.35, a level not seen since January 2022.

Despite inflation falling to 2.2%, close to the bank’s 2% target, the MPC said it would gradually remove policy constraints, and inflation is likely to rise to 2.5% by the end of the year. The decision to halt interest rate cuts has had a knock-on effect on UK government bonds, sending 10-year gilt yields up four basis points to 3.88%.

Meanwhile, the FTSE 100 and FTSE 250 indices rose, closing up 0.9% and 1.6% respectively.

But Nick Andrews, chief foreign exchange strategist at HSBC, warned that sterling’s gains could be short-lived, and predicted that sterling would weaken as the Bank of England may eventually be forced to cut interest rates more aggressively than currently expected. “The outlook for the UK economy is likely to weaken relative to the US, which will weigh on GBP/USD,” he said.