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The possibility of the Bank of England (BoE) implementing a stricter monetary policy in response to the worrying inflation rate in the UK is being discussed by MUFG.

Here are the key takeaways from the text:

High Inflation: The May Consumer Price Index (CPI) in the UK showed an increase of 0.7% month-on-month, which was higher than the expected 0.4%. Consequently, the annual inflation rate remained at 8.7% instead of declining to 8.4% as was anticipated. Additionally, core inflation, which excludes the volatile food and energy prices, accelerated to a cyclical high of 7.1% year-on-year.

MUFG points out that the Bank of England is caught in a difficult situation. While the significant inflation figures may justify a stronger raise in interest rates, up to 50 basis points, in order to tackle inflation, such a sudden and forceful increase could be interpreted as the bank acting hastily and acknowledging that it is struggling to combat inflation. This may lead to negative implications on market trust and belief.

Initially, MUFG believed that the BoE would increase rates by 25bps, but considering the worrisome inflation statistics, they now have a slight preference towards a 50bps hike. However, they understand that the BoE could still choose a more careful approach and go with a 25bps increase. MUFG also states that the impact of past tightening will eventually affect inflation.

According to MUFG, if the BoE takes stronger measures, the GBP could rise in the short term. However, there may be a limit to how much the currency appreciates as investors consider the possible effect of aggressive tightening on economic growth. MUFG believes that the GBP/USD could reach 1.3000, but there could be mixed sentiment given high inflation and opinions about the BoE’s management of policies.

To sum up, MUFG believes that the BoE may raise interest rates more aggressively due to the UK’s rising inflation, but they recognize that the BoE is facing a challenging situation. The GBP’s reaction will not only depend on the size of the rate hike but also on how people perceive the BoE’s management of the inflation issue.

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