Sterling slips against dollar as focus turns to UK budget

The pound slipped against the dollar on Wednesday, retreating from a two-and-a-half-year peak a day earlier, as investors turn their focus to next month's British budget and the Bank of England's interest rate decision due eight days afterwards.

Sterling GBPUSD fell 0.30% to $1.33725, marking a break after five consecutive days of gains.

"I think sterling is perhaps facing quite a difficult hurdle in the shape of the October 30th UK budget," said Jane Foley, senior forex strategist at Rabobank, as there is a clear anticipation that the country will face more tax hikes.

"It does feel that investor sentiment has perhaps become more worried about the possibility of tax hikes in this budget."

Uncertainty about the policy direction of Britain's newly elected Labour government might be holding back business investment and consumer spending, Bank of England Monetary Policy Committee member Megan Greene said on Wednesday.

Finance minister Rachel Reeves has said some taxes are likely to rise when she sets out her first budget on Oct. 30.

The BoE last week held rates and said it would be cautious about future rate cuts. Markets expect just 40 bps more of cuts by December, which would leave the base rate closer to 4.50%.

Analysts at Unicredit said in a note to clients that they remained bearish towards sterling ahead of what they said was likely to be a more intense easing process by the BoE "especially next year, to cope with a further-deteriorating UK economy and tighter fiscal policy – as will likely be outlined in the UK's autumn budget".

The Federal Reserve last week cut interest rates by an outsized 50 basis points and the futures market prices in at least another 75 bps in cuts before the end of the year, which would leave U.S. rates around 4.00%.

Against the euro EURGBP, the pound dropped to 83.6 pence after trading on Tuesday around its strongest level since April 2022.

A dip is no particular surprise as sterling has appreciated "quite significantly" against the euro at the end of last week and into this one, Foley said.

The prospect of a slower pace in British interest rate cuts compared to elsewhere has given sterling an edge over other major currencies.

The pound is the top-performing G10 currency against the dollar this year, with a gain of 5.4%, compared with a rise of just 1.3% in the runner-up, the euro EURUSD.