It was announced this morning that UK inflation has risen by more than expected with Consumer Price Index (CPI) coming in at 2.7% year on year compared to the previous 2.4%. CPI is one of the leading measures of inflation and with the figure higher than expected could mean that we will see Sterling strengthen over the course of the day. While rising inflation can be good in the short term for a currency it does put some pressure on the Central Bank who are targeted to keep inflation at a steady 2% and raises the question can the Bank of England (BoE) continue with Quantitative Easing (QE) which contributes to higher inflation levels. Also, while the BoE doesn’t have the room to increase interest rates at present it means the BoE are stuck between a rock and a hard place. Should inflation reach 3% then the Governor of the BoE, currently Mervyn King, has to write an open letter to the Chancellor explaining why inflation is so far above their target and what they are doing to combat the rise in inflation, this again can put pressure on Sterling.
If inflation continues to rise seemingly unchecked then we could see Sterling exchange rates come under pressure. This will certainly be an interesting conundrum for the new Governor of the BoE Mark Carney who starts his new post next month.