16 July 2019: U.K. Economic Momentum failing

U.K. Economic Momentum failing

July 16th: Highlights

  • Sterling turns towards recent lows
  • Dollar upside capped by rate expectations
  • Euro barely moves as dovish ECB caps upside

Brexit the major factor but UK also suffering from global slowdown

Were Brexit not happening where would the UK economy stand given the continued slowdown that is being experienced in the Eurozone and the uncertainty over the necessity for interest rate cuts in the U.S?

It had been widely expected that there would be a rate hike in the UK towards the end of the year were there to have been a smooth Brexit. Those expectations have been dealt a blow by the commitment of both candidates in the campaign to be the leader of the Conservative Party.

Jeremy Hunt and Boris Johnson are both committed to leaving the EU with or without a deal although Johnson is the more hawkish of the two.

Most analysts now expect a rate cut by the end of the year despite the inflationary impact of a weakening currency which would be exacerbated by lower short-term interest rates.

It is fairly certain that the economic effect of Brexit is going to have a significant influence on GDP in the short/medium term but it is virtually impossible to “put a number” on just how significant an effect, given the politically expedient nature of the figures quoted. By far the potentially most painful is the 8% drop over five years being quoted by the Lib/Dem Party who are staunch supporters of remaining in the EU.

The committed Brexiteers prefer to make unsubstantiated claims that the effect of a no-deal Brexit will be far less than the “naysayers” expectation. Unfortunately, the country finds itself in such a unique position that it is impossible to say what will happen and while “wait and see” is hardly a salient political policy, it is the best anyone can really offer.

The pound resumed its path lower yesterday having been driven by a weakening dollar for most of last week. It reached a low of 1.2510 closing at 1.2515. Versus the single currency, yet again, two days of gains came to an end as has been the pattern since mid-May as the pound lost ground. It made a low of 1.1109, closing at 1.1119. The losses versus the euro appear to be slowing down considerably with charts showing a bottoming out beginning to form.

Considering your next transfer? Log in to compare live quotes today.

Rate expectations the only current factor for the greenback

Given the rate of growth that is being forecast for the U.S. in Q2, it is becoming clear that it could easily be a case of “one and done” for the Federal Reserve when, as seems certain, it cuts rates at the end of this month. Estimates range from 2.5% to 2.8% for Q2 GDP which places the need for a rate hike very close to “not at all”.

However, in a highly politically motivated scenario, the pressure being put on the Fed has more to do with the 2020 election than any economic concerns.

While Fed Chairman Jerome Powell manfully grapples with market expectations, analysts appear resigned to a cut whether it is warranted or not.

There is a suspicion that Powell will be a little more hawkish in his comments when the announces the cut and that will have two effects; it will dampen almost entirely the possibility that this will be the first in a series of hikes and it will send the dollar back to the top of its recent range, if not making new highs for the year.

The cut will be little more than an admission from the FOMC that the last of the rate cuts that took place in 2018 was a little more aggressive than was warranted despite the stimulation provided by tax cuts. The FOMC will be concerned not to make the same mistake, albeit in the opposite direction, over the rest of 2019.

As rate cut expectations become a little “stale”, traders slowed their cutting of long dollar positions yesterday and the index steadied after three days of losses last week. It reached a high of 96.97, closing at 96.95. Overnight it has been almost unchanged as Asian traders driven mostly by risk appetite await any fresh news on trade talks between Washington and Beijing.

Euro in the doldrums as traders await an ECB miracle

It is hard to imagine anything giving outgoing ECB President Mario Draghi greater pleasure than to leave the position in November having set the Eurozone economy on a path to sustainable growth.

It will be tough on Draghi to leave the role never having been able to have enough confidence in the economy to be able to raise interest rates and his entire period in office has been characterized by “fire-fighting”.
When the single currency was introduced, no one could have anticipated the ravages that would overcome the economy due to the Financial Crisis of 2008 and, having come to the office in 2011, Draghi has been more of a janitor cleaning up the mess, than the evangelist for change he was expected to be.

Given that the role of the European Parliament is to debate and approve policies handed to it by the European Commission and European Council, it has missed the opportunity over the past ten years to reform and improve the systemic issues which face the region.

While the charge of being run by unelected bureaucrats is unfair, a desire to maintain the status quo has been the single most damaging effect of the way in which the region is governed.

There is a real threat of the whole edifice collapsing should there be no reform over the period of the current Parliament. Christine Lagarde, the incoming ECB President, will certainly shine a different light on the subject. Being a politician herself, she will understand the methods needed to drive political change.

It is to be hoped that she receives genuine support and guidance from the members of the ECB Council, but should she bring about change, it will need to be remembered just how vital the stewardship of Mario Draghi was to the cause.

The euro has become little more than the counterbalance of the dollar index in recent months. Yesterday, it closed a little lower at 1.1258 having reached a low of 1.1253.

Have a great day!

About Alan Hill

Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.”