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Written by Terri Belkas, Currency Strategist

At 7:00 ET on Thursday, the Bank of England (BOE) unexpectedly slashed rates by 150 basis points to bring the UK Bank Rate down to 3.00 percent, the lowest level since 1955.

Indeed, a Bloomberg News poll of economists had only forecasted a 50 basis point reduction, making this move all the more shocking. Looking at the BOE Monetary Policy Committee’s (MPC) commentary released post-announcement, it is clear that the MPC is extremely concerned about not only the instability in the financial markets and persistently tight credit conditions, but also the significant downside risks to growth and perhaps most importantly, the risk that inflation will fall below their 2.0 percent target. The latest CPI figures show inflation growth at 5.2 percent in October, but given the economic slowdown and drop in commodity prices, the BOE has suggested that CPI will plummet in coming months. This echoes the rhetoric of the BOE’s most ardent dove, MPC member David Blanchflower, who said last week that deflation was a bigger concern than inflation, and that rates must be lowered “significantly” and “quickly.”

Bank of England – The dramatic rate cut from the MPC was the biggest fundamental shift of the three European policy announcements; but the reaction from the currency market wasn’t exactly straightforward. Against a far more modest forecast of a 50bps rate cut, the 1.50 percentage point gash would be considered a significant damper for yield seekers under normal market conditions. However, these are far from normal conditions. Risk aversion is now holding a greater position in the market than appetite for return; and this has put a premium on those currencies that will find themselves ahead of the curve in their monetary policy regimes on the belief that those economies that can recover first will be in a better position to accept capital flows and see their rates rise more quickly. With such a hearty drop in its benchmark lending rate, the BoE has quickly moved the UK up the recession curve; and this is the reason for the pound’s ultimate advance over the dollar, euro, yen, and franc. However, yield differentials are still playing a role in the market; and the aggressive moves of the RBA and RBNZ have helped the Australian and New Zealand dollars to keep their buoyancy against sterling.

Check out our Central Bank Interest Rate Summary for more on the rate cuts implemented by other European central banks on Thursday and its impact on the forex markets.