The pound slumped against the dollar (GBPUSD=X) on Thursday, wiping out gains made earlier in the day, as traders digested the Bank of England’s decision on UK interest rates.
Threadneedle Street hiked rates by 50 basis points (bps) in a bid to combat inflation, its sixth consecutive increase and the biggest rise since 1995.
Eight of the nine MPC members voted in support of an immediate 50 basis point rate increase, with Silvana Tenreyro acting as lone dissenter in favour of a standard 25 basis point hike.
Watch: What is a recession and how do we spot one?
However, the Bank cautioned on the future outlook, with inflation expected to hit 13% by the end of this year, and the UK set to fall into a recession during the final quarter of the year.
Sterling edged lower against the US greenback to $1.2116, down 0.2%, while it was also 0.4% down against the euro (GBPEUR=X) on the day.
“Sterling has fallen fairly sharply against its major peers so far this afternoon following a very doom and gloom assessment of the UK economy from the Bank of England," Matthew Ryan, head of market strategy at global financial services firm Ebury, said.
"We’ve run out of fingers and toes keeping track of the number of occasions that the MPC has revised upwards its inflation forecasts in the past year. UK headline inflation is now expected to peak at 13.3% in October, and remain just shy of double-digits in twelve months time.
"Of particular concern is the bank’s appraisal on the impact of the cost of living crisis on economic activity. Policymakers now expect the UK economy to contract throughout all of 2023, with a peak-to-trough fall of more than 2%. This is a far sharper downturn than market participants had accounted for, hence the initial knee-jerk sell-off in the pound."
It comes as inflation reached 9.4% in the year to June, partly due to a 42% year-on-year increase in petrol prices, and an increase of almost 10% in food prices.
Meanwhile, Michael Hewson of CMC Markets said: "With the pound already down 10% year to date against the US dollar, the bank needs to act in a much more dynamic fashion to keep imported inflation in check, especially with the potential for another 50 or 75bps from the Federal Reserve next month.
Watch: How does inflation affect interest rates?