27 August 2020: Sterling supported despite concerns

Sterling supported despite concerns

27th August: Highlights

  • Inbound tourism hitting economy
  • Powell’s plans bring open a political debate
  • Brexit hotting up as Germany abandons talks

UK entering critical phase

The UK economy is entering a critical phase as several headwinds are threatening to arrive at the same time which could blow the Government’s handling of the economy off course.

Data released yesterday for losses in inbound tourism into the UK showed that it is costing the country over £400 million a week as visitors stay away due to the pandemic and various travel bans. This is an added effect of Covid-19 which may take a considerable time to return.

Arrivals from the U.S. and China usually make up the bulk of visitors and when added to the longer-term arrival of foreign students which has slowed to a trickle, this is another blow to several ancillary industries.

Germany announced yesterday that it is abandoning Brexit talks due to the attitude of the UK negotiators who like to scapegoat Brussels and criticise its bureaucracy then try to cherry pick the part of that bureaucracy for its own benefit.

The UK’s right-wing press claim that Germany is concerned over the effect of Brexit on the single currency. However, Germany has now virtually guaranteed that it will increase its payments to Brussels to cover the shortfall left by the UK’s departure, showing its true European credentials.

The Bank of England is trying to work with the Government to bridge any gap that comes as the Chancellor’s support schemes wind down. With a hefty portion of the workforce still not back at work it is becoming more and more difficult for Rishi Sunak to balance the books.

With respect to what he did to counter the initial effect of the lockdown, now comes the more difficult part when he has to decide the who, how and when of higher taxation. This is particularly difficult since the Prime Minister remains adamant that austerity is at an end.

The pound continues to attract support in markets that are coming to the end of their summer lull. With next week’s Bank Holiday allowing traders to mull over the speech that will be made by BoE Governor Andrew Bailey tomorrow, liquidity will be returning to the market next week, possibly accompanied by greater volatility.

Yesterday, the pound rose to a high of 1.3219. It closed at 1.3209, as the dollar lost a little ground.

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Political ramifications concern Democrats

In his keynote address to the Jackson Hole Symposium later today, Federal Reserve Chairman Jerome Powell will outline a paradigm shift in how the Central Bank looks at inflation and its effect on employment and growth.

This may appear on the surface to be a fairly mundane topic, particularly when placed against the issues that the country is currently facing.

However, scratch the surface, and several thornier issues are revealed. For the average worker, low inflation means his cost of living remains low, but that doesn’t consider that with low inflation, his pay will also remain low, taking away both spending power and choices.

The Fed has had a 2% target for inflation for over a decade but has only had the fairly blunt tool of monetary policy to control CPI. constantly raising and cutting rates to try to control a finally balanced issue is almost impossible.

A target for inflation will be discussed that will allow inflation to exceed 2% without the Treasury wanting to know what the Fed’s plans are. This will allow greater flexibility.

Powell has unintentionally come under the spotlight of the election campaign.

During his time in office, there is no way that he could be labelled a Trump puppet since he has been warned several times that his job is in jeopardy for actions that run contrary to the President’s view. However, the Democrats accuse Powell of fostering the recovery of the financial sector while small business struggles. This is a charge he no doubt refutes

Whatever he says later, traders will hang on every word. Yesterday, the dollar index was under a little pressure. It fell back through the 93 level that had been providing a little support, reaching a low of 92.84, closing at 92.89.

The EU’s strongest economy trying to hold things together

Germany signalled a major shift in its support for the entire EU project yesterday as it abandoned talks with the UK over Brexit.

It seems it has decided that it remains dedicated to the concept of a Europe that is moving towards Federalism and while that may not gain the support of every member of the Community it remains in Germany’s best interests to retain a degree of control over and above its financial muscle.

While this clear support for the processes adopted by Brussels will be welcome, the timing seems a little late. It could have cut through constant back and forth between London and Brussels a year ago, but Mrs Merkel left the negotiations to Michel Barnier although she was clearly kept up to date with progress (or lack thereof).

Now, with elections less than a year away and a major change in Government, with Merkel stepping down and her Party trailing in the polls, Berlin has decided to reveal the extent of its European credentials by virtually guaranteeing that the EU won’t suffer financially as it will increase its budget contribution.

A cynic may see this as Germany looking to exert greater control but given the degree of influence it already has; this is hardly necessary.

The data released so far this week certainly backs Germany’s dominance. The influential IFO index showed that the current assessment and future expectations for the economy are rising and the business climate continues to improve.

The euro trod water yesterday closing barely changed at 1.1830. The fact that the dollar was also under a little pressure does not bode well for the single currency’s ability to make fresh highs.

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.”