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Dovish Bank of England comments prompt GBP exchange rate slump

Doubts over the prospect of a Bank of England (BoE) interest rate hike have prompted volatility for pound exchange rates, with market focus generally returning to the subject of monetary policy. This saw the GBP/USD exchange rate slump sharply from its recent high of 1.4372 to just 1.3947

The GBP/EUR exchange rate came under similar pressure, even though worries remain over the likely loss of momentum within the Eurozone economy. The pound came under fresh pressure after March's UK consumer price index fell short of forecast, easing from 2.7% to 2.5% on the year. As this takes inflation closer to the BoE's 2% target this weakening appears to limit the case for the central bank to raise interest rates again in the near future.

Investors were further shaken by the latest commentary from BoE Governor Mark Carney, who took a rather dovish tone on the subject of monetary policy. With Carney appearing to talk down the prospect of a May interest rate hike, GBP exchange rates naturally returned to a weaker footing, softening as markets unwound bets on the prospect of an imminent policy move. All in all, confidence in the outlook of the UK economy still looks distinctly limited at this stage, particularly with the uncertainty of Brexit still hanging over markets.

Demand for the euro, meanwhile, was weighed down by an unexpectedly sharp contraction of the latest German ZEW economic sentiment surveys. As the business expectations index fell to a five-year low of -8.2 this encouraged investors to pile out of the single currency. This significant dip in sentiment did nothing to ease concerns over the outlook of the wider Eurozone economy or its ability to maintain its previous momentum in the coming year.

Confidence in the prospect of a more aggressive pace of Federal Reserve monetary tightening, and an uptick in US bond yields, offered support to the US dollar, meanwhile.

Local elections in the UK could provoke some additional volatility for pound exchange rates, with political jitters still playing a role in market sentiment. Unless there are signs that the government is willing to reconsider its stance on the UK retaining membership of the customs union even after Brexit the upside potential of the pound is likely to be muted.

However, the key focus in the weeks ahead will be on May's BoE policy meeting. If the Monetary Policy Committee (MPC) opts to leave interest rates on hold for another month GBP exchange rates could see some significant losses.

Persistent dovishness from the European Central Bank (ECB), meanwhile, is expected to keep the euro on a generally softer footing. As long as global geopolitical and trade tensions show no fresh signs of flaring up the US dollar is likely to see limited vulnerability. Markets will also be watching the latest Federal Reserve policy meeting, keen to gauge the current outlook of policymakers.

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