What to Expect for the BoE and ECB Rate Decisions

The forex market is gearing up for two very important monetary policy announcements on Thursday - one from the Bank England and one from the European Central Bank. Based upon the price action of the EUR/USD and the GBP/USD, traders are not expecting much from either central bank. Both the BoE and ECB are expected to keep interest rates unchanged but as usual, what the market cares about is what they say about future plans. For the Bank of England, the central question is whether they are still considering boosting the size of their Quantitative Easing program and for the European Central Bank the question is whether their outlook has been affected by the fiscal issues in Portugal, Greece, Ireland, Italy and Spain. With the EUR/USD and the GBP/USD trading near important support levels, whether these currencies continue to slide or hold above support will be determined by what the central bank telegraphs. There is also a good chance that the BoE and ECB could adopt very different tones, which would have strong repercussions for EUR/GBP.

Act 1: Bank of England Rate Decision 7:00 AM EST / 12:00 GMT

The first act will be the Bank of England's rate decision. Following the last two monetary policy announcements, the BoE suggested that the next major decision will be made in February when the central bank prepares its Quarterly Inflation Report. Although the report will be released after the rate decision (on Feb 10), monetary policy officials already have most of the findings on hand. The recent improvements in the economy suggest that additional quantitative easing is no longer necessary. Consumer confidence has picked up along with consumer spending. The manufacturing and service sector are continuing to expand while consumer prices edged higher. Although the BoE could wait another month before telegraphing a move away from more QE, the asset purchase program was set to end in January and the next meeting at which they will have such an in depth overview of the economy will not be until May. Therefore we expect some optimistic comments from the BoE which could in turn stem the slide in sterling. Last month, the British pound barely reacted to the BoE announcement but given that the central bank has set the market up for a big announcement, we expect a more volatile reaction in the British pound this time around.

Act 2: European Central Bank Rate Decision 7:45 AM EST / 12:45 GMT - Trichet Press Conference at 8:30 AM EST / 13:30 GMT

Shortly after the Bank of England's announcement will be the European Central Bank's interest rate decision. At 7:45AM EST, the ECB will make their rate announcement and given that rates are expected to remain unchanged, the real focus will be on ECB President Trichet's press conference which begins at 8:30AM EST. Although most of the economic data released since the last monetary policy indicates that the economy has improved, there are still a lot of uncertainties. The members of the Eurozone that are struggling with deteriorating fiscal balances will be forced to cut spending and raise taxes in the coming months which would inevitably slow their recoveries and the ECB will have to take this into consideration. When the ECB met in January, they were cautiously optimistic and there are no reasons why they should change their stance at this time. Given uneven growth and low inflation, Trichet said last month that the current level of interest rates is still "appropriate" and that quarterly GDP will be up and down. Therefore the central bank will remain "very alert, very prudent" on the economic outlook. Another month of caution by the ECB could weigh on the euro and prevent a meaningful pickup in the currency pair.

EUR/GBP is the Currency Pair to Watch

Given the importance of tomorrow's two rate decisions, the currency pair that stands to move the most is EUR/GBP. The pair has been range bound as of late, pausing after a relatively significant downtrend. Levels to look out for support include the 0.8602 low from late-January. Combined with psychological factors, the levels importance is magnified due to the fact it is also the 78.6% retracement from late-June lows to October highs. As a more intermediate level to watch, 0.8710 corresponds with the 10-day moving average. Prices could be capped at the 61.8% retracement at 0.8786.