Forex Today: USD stays under pressure after election as BoE rate decision takes centre stage

What is on the market radar for Thursday, 5 November?

Selling pressure continues to weigh on the US Dollar (USD) on Thursday after the midterm election result, taking the USD Index further down towards 101.00 in early European trading. Attention later in the day turns to the Bank of England (BoE), which is due to announce its monetary policy decisions. At a press conference beginning at 12:30 GMT, Bank of England (BoE) Governor Andrew Bailey will discuss the policy outlook and take questions.

TMGM Analysis: Financial Market News, Economic Calendar & Market Insights

Midweek trading saw the USD lose ground against its major peers after the Democrats secured a majority in both the Senate and the House. Renewed hopes of an easing in the Middle East conflict sent Crude Oil prices sharply lower, while a risk-on rally lifted Wall Street's main indices after the opening bell. On the data front, Automatic Data Processing (ADP) reported an October increase of 86K in private-sector employment, above the market forecast of 69K. A reading of 54.5 for the Institute for Supply Management's (ISM) Services Purchasing Managers' Index (PMI) also signalled a healthy pace of expansion in service-sector economic activity.

How Has the US Dollar Performed This Week?

This week's percentage moves in the US Dollar (USD) against the major currencies listed are set out below. The Swiss Franc recorded the strongest performance against the US Dollar.

	USD	EUR	GBP	JPY	CAD	AUD	NZD	CHF
USD		-0.78%	-0.66%	0.40%	-0.12%	0.24%	-0.18%	-1.01%
EUR	0.78%		0.09%	1.12%	0.63%	0.94%	0.60%	-0.26%
GBP	0.66%	-0.09%		0.87%	0.54%	0.85%	0.49%	-0.35%
JPY	-0.40%	-1.12%	-0.87%		-0.49%	-0.16%	-0.64%	-1.49%
CAD	0.12%	-0.63%	-0.54%	0.49%		0.35%	-0.14%	-0.88%
AUD	-0.24%	-0.94%	-0.85%	0.16%	-0.35%		-0.36%	-1.18%
NZD	0.18%	-0.60%	-0.49%	0.64%	0.14%	0.36%		-0.90%
CHF	1.01%	0.26%	0.35%	1.49%	0.88%	1.18%	0.90%

Percentage movements between the major currencies are displayed in the heat map. Select the base currency in the left-hand column and the quote currency in the top row. For instance, choosing the US Dollar on the left and following that row across to the Japanese Yen gives the percentage change for USD (base)/JPY (quote) in the corresponding cell.

Recent political and market developments have prompted what Scotiabank analysts describe as “something of a ‘relief rally’”, their preferred explanation for the latest spell of Dollar weakness against G10 currencies. They also characterise the movement as “a shift in the USD toward the middle of its ‘smile’, in which relative growth and interest rate differentials narrow as the US/USD drift from the edge linked to exceptionalism – with the other edge of the smile tied to sentiment-driven risk aversion.” As immediate tail risks ease, they believe this move away from the extremes of the so-called Dollar smile helps account for the outperformance of higher-beta currencies.

GBP/USD is consolidating near 1.3480 on Thursday morning in Europe, after Wednesday's rise of nearly 0.4% took it just above 1.3500 to its highest point since mid-September. A 25 basis points (bps) increase in the BoE's policy rate to 4% is expected by investors.

A less forceful message from the BoE could undermine Sterling's recent resilience, warns Societe Generale’s Kit Juckes. His caution is that “if the Bank of England’s guidance on Thursday shows any hesitation about how much further they need to go, the Pound could start looking vulnerable,” although he believes “it is probably too early for them to give the appearance of slowing down.”

Gold (XAU/USD) is extending its advance on Thursday, trading above $4,100 with a gain of about 1.5% during the European morning. The bullish momentum follows Wednesday's rise of more than 3%, when XAU/USD reacted favourably to the US midterm election outcome.

EUR/USD is trading higher near 1.1250 on Thursday, supported by widespread USD weakness. September's Producer Price Index figures are due later in the day on the European economic calendar. European Central Bank President Christine Lagarde is also scheduled to join a discussion at "New Dialogues for the Future", an event in Milan, Italy.

USD/JPY is edging further down towards 158.00 during European trading, extending Wednesday's marginal decline. Investors will closely track Japan's September Labor Cash Earnings figures, due in the early hours of Friday's Asian session.

BoE: Key Questions Answered

What is the Bank of England's role, and why does it matter for the Pound?

Monetary policy in the United Kingdom is determined by the Bank of England (BoE), whose central objective is ‘price stability’, meaning a stable inflation rate of 2%. Adjusting base lending rates is its means of pursuing that goal. By setting the rates at which it lends to commercial banks and at which banks lend to one another, the BoE influences interest rates across the economy. These decisions also affect the value of the Pound Sterling (GBP).

Why do the Bank of England's monetary policy decisions affect Sterling?

Inflation above the Bank of England's target prompts interest rate increases, raising borrowing costs for households and businesses. Higher rates support the Pound Sterling by making the UK a more appealing destination for global investors' funds. By contrast, below-target inflation signals slowing economic growth. In that situation, the BoE will consider cutting rates to make credit cheaper, hoping businesses will borrow to fund projects that generate growth. Such a move is negative for the Pound Sterling.

How does Quantitative Easing (QE) work, and what does it mean for the Pound?

When extreme conditions leave the financial system unable to function effectively, the Bank of England can turn to Quantitative Easing (QE) to substantially expand the flow of credit. This is a last-resort policy used when interest rate cuts will not deliver the required outcome. Under QE, the BoE creates money to purchase assets from banks and other financial institutions, typically government bonds or AAA-rated corporate bonds. The Pound Sterling usually weakens as a result.

How does Quantitative tightening (QT) work, and why does it affect the Pound Sterling?

As the economy strengthens and inflation begins to rise, Quantitative tightening (QT) reverses the process of QE. Under QE, the Bank of England (BoE) buys government and corporate bonds from financial institutions to encourage lending. Under QT, it halts further bond purchases and no longer reinvests the principal repaid when bonds in its existing holdings mature. This is generally supportive of the Pound Sterling.