Pound to Dollar: A Technical Barrier Meets Fed Caution

File image of Chair Jerome Powell, image supplied by the Federal Reserve.

The Pound to Dollar exchange rate rally has failed again after colliding with a notorious technical barrier and Jerome Powell's sober assessment of the prospect of interest rate cuts.

Powell spoke to U.S. lawmakers on Tuesday and offered no clear signal that the Federal Reserve was ready to cut interest rates in September.

"Powell’s opening statement for his congressional testimony today offers few clues about the potential timing of interest rate cuts, with the key line that the Fed is still looking for 'more good data' to strengthen its confidence that inflation will return to target," says Stephen Brown, Deputy Chief North America Economist at Capital Economics.

Interpretations of a sober message from the Fed Chair helped the Dollar, and GBP/USD retreated to sub-1.28 levels once more.

A look at the charts shows the retreat also coincides with some decent resistance from a technical perspective.

Although a broad array of signals is consistent with further near-term GBP/USD upside, we note that anything approaching 1.2820 looks to be advancing into rarified air. The pair doesn't tend to dwell above these levels, and this gives many in the market to reduce GBP/USD upside exposure around here.

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To be sure, the pullback is shallow, and another crack at the ceiling cannot be ruled out.

Indeed, our own assessment of Powell's testimony was more constructive for GBP/USD, noting that Powell looks to be preparing for a September rate cut.

Powell indicated the Fed was now turning its focus to the labour market, where consideration must be given to how elevated interest rates can result in unnecessary job losses.

"In light of the progress made both in lowering inflation and in cooling the labor market over the past two years, elevated inflation is not the only risk we face,” said Powell in an opening statement to a two-day senate hearing.

"Reducing policy restraint too late or too little could unduly weaken economic activity and employment," said Powell.

The Fed has a dual mandate to maintain steady inflation and optimal employment. This means there could be a payoff regarding interest rates: if you only watch inflation, you might cut interest rates after meaningful damage has been done to the nation's workforce.

In short, we think the Fed is saying it thinks it can cut before inflation hits the 2.0% target. "He is fretting a bit more about the potential costs of waiting too long to ease," says Ian Shepherdson, Chairman and Chief Economist at Capital Economics.

However, others, and perhaps the wider market, do not see such generosity, which might explain USD support.

"Federal Reserve chair Jerome Powell avoided clearly telegraphing a September rate cut, instead maintaining the nuanced stance that has characterised his comments over the last month," says Karl Schamotta, Chief Market Strategist at Corpay.

"The dollar is inching higher, Treasury yields are up slightly, and equity indices are seeing modest retreats as traders incrementally lower the odds on a rate cut at the September meeting," he adds.

Kyle Chapman, FX Markets Analyst at Ballinger Group says Powell switched "to excessive caution in Senate testimony."

"Powell has disappointed the market’s - and my - expectation for a more dovish tone, and he does not sound like a man gearing up to cut interest rates in two months’ time. He spent Q1 pinning down the upside inflationary surprises to seasonal or transitory factors and keeping a laser focus on rate cuts, and only now that the data is moving decisively in the right direction is he stressing caution about the prior lack of progress," explains Chapman.

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