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How to invest using the US-UK inflation differential.

    Summary:
  • The inflation rate differential between the US and the UK provides a unique opportunity to take a strategic position in the market.

The latest UK inflation data came as a surprise to all of us. After showing a decline at the start of the year, and then rebounding in February, its inflation data turned out to be higher than expected.

Inflation Rate UK.

The stark contrast with the downward trend in US inflation since summer 2022 is one of the main reasons why the pound has only risen after last year’s collapse.

Inflation Rate EE.UU

At a time when investment analysts are focusing their debate on whether US monetary policy will ease pressure by relieving the market of the burden of rising interest rates, or remain tight and continue to raise rates, this inflation rate differential between the US and the UK provides a unique opportunity to take a strategic position in the market.

What to expect in the current situation.

Considering the high inflation rate in the UK, it would be logical to expect a tight monetary policy for several consecutive periods to ensure price stability in the UK economy, thus tightening the value of the pound against other currencies, including the dollar.

In fact, Dave Ramsden, Deputy Governor of the Bank of England, in an interview he gave on Friday, stated that “High inflation is a bigger risk than excessive tightening”. This clears up doubts that also existed about the central bank, as some of its members had advocated caution on rate hikes until the effects of the first monetary policy moves on the economy had been felt.

The Bank of England’s main fear is that too much policy tightening will provoke an economic recession in the UK. Especially considering that the UK’s year-on-year growth rate is 0.1% compared to 2.6% for the US.

United Kingdom GDP Growth Rate
EE.UU GDP Growth Rate

Conclusion.

In view of the data, it seems quite obvious that the UK will have no choice but to take severe measures to control its inflation rate. This would imply, that the pound will necessarily have to reduce its liquidity, becoming more expensive against the dollar in the international markets, thus, producing an artist movement that could lead the cable to this 1.2715 level.

Important:

Don’t forget that US growth rate for Q1 will be public this week. An overly positive result could mean that the Fed decides to continue to tighten policy. In this scenario, the dollar would rally and the GBPUSD could even fall to levels near 1.2050.