Sterling/Euro Currency Review July 2013
Friday 02 August 2013
Sterling declined against the euro throughout July as uncertainty surrounding the Bank of England’s monetary policy weighed heavily, says Ben Scott
An initial GBP/EUR high of 1.1775 (interbank) was followed by a period of decline which resulted in a four-month low of 1.1484 (interbank), as illustrated by point B, trading at an average of 1.1606.
Sterling benefited on the back of positive economic data including significantly better than expected Service Sector figures which account for 75% of economic output from the UK reaching the highest level for over two years. Economic confidence in the UK also hit a thirteen-month high. However, Sterling gains remained relatively subdued despite touching month highs in early July, (Point A on graph).
July saw the euro under pressure immediately as Portugal once more flirted with the threat of financial crisis. Portuguese debt smashed through the upper limits set by the European Union, International Monetary Fund and Troika, leading to the resignation of two key government officials including Finance Minister and austerity chief Vitor Gaspor.
However, a clear change of policy resulted in the sharp depreciation of Sterling as new Bank of England (BOE) Governor, Mark Carney, and the Monetary Policy Committee took the unexpected step of releasing ‘Forward Guidance’ when announcing that interest rates would once again remain on hold. Forward Guidance was largely unexpected but was released in the face of growing interest rate speculation, forewarning that interest rates will remain at current record lows for an extended period, rebuffing overly optimistic analyst forecasts that interest rate increases might be seen as early as the second half of 2014. With interest rate hikes unlikely until at least 2015 Sterling became a far less attractive investment and fell lower against the euro.
Sterling’s gradual improvement from Point B on the graph was initially a result of BoE minutes surprising the markets by showing a vote of 9-0 in favour of keeping monetary stimulus (Quantitative Easing) at current levels, the first unanimous vote since October 2012. However any real Sterling gains were capped by a clear hint towards ‘alternative measures’, suggesting results of the next BoE meeting may lead to high volatility for Sterling if alternative monetary stimulus is instigated.
Positive data from the UK continued with Gross Domestic Production figures (GDP) showing that the economy grew in line with expectations in Q.2 2013 with growth of 0.6%, undoubtedly the most encouraging figure since 2011(allowing for the heavily Olympic-skewed figures of Q.3 2012).
Prime Minister David Cameron welcomed the positive data, stating “today’s economic figures are encouraging; we are on the right track.” Nevertheless Sterling failed to make significant gains on what should be viewed as extremely positive economic data with downward trends quickly re-established from Point C, heading towards new lows at the end of July.
Outlook
Numerous factors will determine the direction of GBP/EUR rates as the UK’s short-term economic outlook improves, but worryingly these improvements are not being reflected in the strength of Sterling.
Whilst July saw the UK escape the IMF’s negative downgrades, there are still concerns for Sterling with Barclays claiming the “Bank of England decisions have led to fully justified declines in the pound” before downgrading its forecast for Sterling.
Economic and political uncertainty again look set to play a key part in the fortunes of the euro. Reports from respected German media outlet Der Spiegel highlighted division amongst ECB members over whether to cut interest rates further, an approach supported by ECB President Mario Draghi, yet fiercely opposed by other ECB members.
With political consent for extreme austerity breaking down across Europe, the growing threat of a further debt crisis will lead to political uncertainty as seen in Portugal, and potential euro weakness.
Optimism is growing that the rest of this year will bring stability to the Eurozone economy. However with unemployment continually rising across the region and German economic data subdued with significant declines in the ZEW (Centre for European Economic Research) data showing a considerable drop in German investor confidence, this optimism may be short-lived. There is no doubt that confidence may continue to slide to the eventual detriment of the euro, a point highlighted by European Central Bank (ECB) member Coeure warning of a “Japanese style lost decade.”
Ben Scott
Foreign Exchange Ltd
www.fcexchange.co.uk
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