22 Oct 2018: Prime Minister Facing Leadership Challenge

Prime Minister Facing Leadership Challenge

October 22nd: Highlights

  • GBP facing significant pressure
  • Midterms set to dominate dollar
  • Italy and ECB to drive single currency

The Last Hurrah falls on deaf ears

The two sides of the Conservative Party have finally managed to come to terms over an issue concerning Brexit. The uniting factor has been Theresa May. Unfortunately, both sides appear to want her removed from power. Her final gambit appears to be the offer of an extension to the transition period, which currently expires on 31st December 2020. That could lead to an even greater morass than is being seen currently with new regulations and a new EU spending round coming due during the term of the proposed extension.

When first presented this apparently no strings attached offer was reasonably well received by Brussels but in typical fashion, it has “fallen at the first hurdle”, given that the offer is suddenly tied to the scrapping of a backstop agreement over the Irish border. That will never fly with any party to the negotiations or the British people who, despite a rally in favour of a second referendum, which 750,000 attended, believe that out still means out.

The pound had a turbulent day on Friday driven by several rumours it traded a 1.3105/1.3011 range although it closed at 1.3067. A rumour of a major concession from the UK was the reason for the late rally and that is now just as likely to be completely retraced since the UK Government is continuing to struggle with any possibility of a settlement.

The weekend newspapers in the UK were full of rumours of a challenge to Mrs. May’s position as soon as Wednesday. It remains to be seen how that will affect the pound with a fall likely initially until it becomes more certain, first if a challenge materializes, and second who the prospective candidates will be. Either way, the pound is set for another volatile week with politics front and centre after last week’s slight diversion created by a mixed set of numbers for employment, inflation and retail sales.

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U.S. Foreign Policy driving global risk

With midterm elections a little over a week away, President Trump continues to exude confidence over the results.

He will have several issues on his agenda this week related to the domestic economy as well as foreign policy.

On the home front, he has mentioned further tax cuts that could be announced before the elections take place. Opposition politicians will label this as blackmail or bribery of the electorate, but it will be another case of “short-termism” from a President who lives very much in the now. The Fed will view the proposal as a vindication of its continued tightening actions.

The foreign policy issue that President Trump faces is the continued uproar over the death of journalist Jamal Khashoggi in the Saudi Embassy in Istanbul. The Saudis have been trickling a stream of stories about how Khashoggi died and the truth is yet to fully emerge. President Trump has been talking tough, but many say not tough enough over Riyadh’s involvement. For now, there is little the U.S. can do other than travel bans given the size of the commercial relationship between the two countries.

The other issue currently in play is the U.S. plan to pull out of the nuclear disarmament deal it has with Russia. This has been roundly condemned by the Russian side with, so far, little comment from Washington.

The methods used by the U.S. administration to deal with foreign policy are having the effect of damping risk appetite globally which drives currencies like the CHF and JPY higher as they are the go to’s in times of global events given their stable economies and surpluses.

The dollar index fell on Friday reaching a low of 95.54 before closing at 95.67. It remains in a relatively narrow range ahead of the elections which have taken on a very strange complexion. They are not too close to call, they are likely to be decisive, but in the current environment, it is difficult, if not impossible, to get to grips with the President’s popularity despite an approval rating in the low 40’s.

ECB Meeting to confirm monetary policy

There is a meeting of the General Council of the European Central Bank this week, as President Mario Draghi enters the final year of his eight-year term. While Sr. Draghi has overseen a remarkable recovery from the depths of the financial crisis, he has been found wanting in more recent times when it comes to becoming more imaginative in how to drive the economy forward.

Using advance guidance, he has informed the market that interest rates in the Eurozone will remain at their current levels for another year to allow the economies showing slower growth to recover.

The issues remain; are those economies taking advantage of the conditions they are seeing and how will they cope when rates start to rise, and monetary policy tightens further? It seems that the answer to the first question is no which begs the questions: how tough could things get and could bailouts may become necessary?

The other issue that will be discussed, but not for public consumption, is Italy. Being Italian, this is sure to be causing embarrassment to Sr. Draghi, a past Governor of the Bank of Italy. In fact, he was Governor when the crisis hit so he has first-hand experience of the problems that Italy faced and continues to face.

While Brussels mulls over what steps need to be taken to rein in Italy, some European papers labeled their budget action a “rebellion.” Meanwhile, the Government in Rome continues to ignore very real financial problems. A downgrade by Moody’s on Friday has placed the focus on the ability of Italian banks to shore up their already weak capital bases.

The single currency rallied a little on Friday in response to a weaker dollar but remains under pressure. It reached a high of 1.1535 and closed at 1.1513.

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.”