Sterling Gets Brief Respite; Energy Prices in Focus

Sterling Recovers as Rising Energy Prices and UK Inflation Add Pressure

Market Reactions and Economic Impacts Amid Middle East Conflict

By Amanda Cooper

Sterling Performance and Currency Movements

LONDON, March 4 (Reuters) - The pound rose for the first time this week on Wednesday, as traders took advantage of a retreat in the dollar, although nerves remained on edge amid uncertainty over the longer-term economic impact of the unfolding conflict in the Middle East.

With investors focused on the U.S.-Israeli war against Iran and the resulting surge in global energy prices, UK markets offered little reaction to finance minister Rachel Reeves' budget update on Tuesday.

Sterling rose 0.33% to $1.34, lifting off Tuesday's two-month low of $1.3255. It was steady against the euro, which traded at 86.97 pence.

Energy Prices and Currency Pressure

The steep rise in oil and natural gas prices since the end of last week has prompted investors to sell those currencies whose economies are more dependent on energy imports, leaving the likes of the euro, pound and yen under pressure, and offering some support to the likes of the Norwegian crown. 

"The dollar has been king during this crisis. However, it is pulling back slightly today, and G10 currencies are clawing back some recent losses. This is likely to be temporary, especially if the oil price remains to the upside," XTB research director Kathleen Brooks said. 

UK Inflation Concerns

At 3%, UK inflation is still the highest among the world's wealthiest nations and risks rising again, given the outsized rise in oil and gas, and the potential for higher costs of imported goods, given that shipping and insurance rates worldwide have also spiked.

Interest Rate Outlook and Economic Forecasts

Rate Cut Expectations Recede

RATE CUT EXPECTATIONS RECEDE

Money markets show traders are placing just a 30% chance on a rate cut this month from the Bank of England, down from a near certainty just last week and a mere 25% chance of a second rate cut by the end of this year. At the end of February, traders were broadly expecting two BoE cuts by December. 

Reeves acknowledged the scale of the economic risks facing Britain, which is heavily exposed to the inflationary impact of an energy cost surge triggered by war against Iran.

Growth Projections and Risks

Britain's independent budget forecasters cut their economic growth projection for this year to 1.1% from a previous estimate of 1.4%. Growth was revised up slightly for both of the next two years to 1.6%, but that represented a pace barely half the average before the global financial crisis of 2007-08.

Furthermore, the Office for Budget Responsibility's forecasts were made before the recent turmoil in the Middle East which, the OBR warned, "could have very significant impacts on the global and UK economies".

(Reporting by Amanda Cooper; Editing by Gareth Jones)