Sterling gains as budget clears and Bank of England rate hike bets build

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Sterling gains as budget clears

Highlights

Sterling rises 0.4% to $1.3429 on Friday after Finance Minister John Healey's budget meets expectations and removes short-term uncertainty for UK assets.
Money markets almost fully price a Bank of England rate hike next week with two further increases expected by July and a 50% chance of a fourth by December 2027.
Sterling set for a 1% monthly gain versus the dollar, outperforming the euro, which has dropped over 4% against the pound year-to-date amid supportive UK economic data.

Budget outcome and rate expectations support sterling

As reported by Reuters, markets are treating Finance Minister John Healey's first budget under Labour Prime Minister Andy Burnham as broadly in line with expectations, removing a near-term source of uncertainty for UK assets.

Investors had largely anticipated what some described as a "do no harm" budget, and Healey's spending plans do not deliver surprises strong enough to shift sterling, gilts or the interest-rate outlook in a significant way. He says fiscal headroom, the amount available for extra spending or tax cuts under the government's own rules, stands at 15 billion pounds, matching expectations in a Reuters poll but below the 23.6 billion pounds recorded in March.

With that event now out of the way, traders are focusing on monetary policy. Sterling is up 0.4% on Friday at $1.3429, making it the day's best-performing major currency, while money markets are almost fully pricing in a Bank of England hike next week, followed by a second increase in February, a third by July and a 50% chance of a fourth by December 2027.

Relative currency strength reflects UK economic resilience

The pound is heading for a 1% monthly rise against the dollar, which would mark its first monthly gain since August. Even so, sterling is down 0.6% against the U.S. currency in 2026, a markedly better performance than the euro's near 5% drop and roughly in line with the yen, which is also down 0.6%.

Against the euro, the contrast is sharper, with the single currency losing more than 4% versus sterling this year. That move appears to reflect not only support for the pound but also broad-based negative sentiment toward the euro, underscored by large investor positions betting against the common currency.

Economists also see a firmer case for tighter UK monetary policy as the economy continues to beat expectations, government bond yields rise and inflation stands at 3.1% with forecasts pointing to a level around twice target. Deutsche Bank chief UK economist Sanjay Raja says the Bank of England's patience may be running out as higher energy prices, a stabilising labour market and limited excess capacity raise questions about whether Bank Rate is restrictive enough.

Our earlier article covered how persistent inflation and stronger-than-expected UK data were pushing economists to bring forward expectations for a Bank of England rate hike, with many penciling in a move to 4.0% in November. It also noted that inflation was forecast to stay well above the 2% target and that policymakers were watching energy-price risks and market volatility even as the economy appeared to be absorbing the shock better than feared.

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