Traders look to Bank for rates guidance

It is going to be an exciting week in the financial markets with the Bank of England and the European Central Bank scheduled to make monetary policy announcements. Rate decisions are always a big deal for stocks, bonds and currencies but now more than ever the outlook for these instruments will hinge upon the outlook for monetary policy.

Investors and traders are begging for the central banks to telegraph their next steps and it may be difficult for the BoE and ECB to avoid doing so. Over the past few weeks the Bank of England has been very dovish. Who can blame it? Unemployment hit 12 year highs and retail sales fell by the most since February 2009.

According to the Confederation of British Industry, consumer spending recovered in February but with policy members talking about the softness of the economy and leaving the door open for further easing last week, chances are that they will remain dovish.

This should be positive for UK stocks and bonds but could drive sterling lower. As for the ECB, we know they are in no rush to raise interest rates or unwind their extraordinary measures, but traders need to pay particular attention to what ECB President Jean-Claude Trichet says about how fiscal problems will play into monetary policy. Last month, he hinted that the deficits could impact their decision, but will he actually acknowledge that the prospect of higher taxes or lower government spending could prevent them from raising rates? Probably not. The Bank’s announcement should be far more market moving than the ECB’s who will dance around the issue of future monetary policy.

Kathy Lien is director of currency research at GFT.