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Sterling Draws Strength from European Inflation

Sterling Draws Strength from European Inflation
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November 6, 2017 By: , No Comments

The EUR/GBP currency pair was trading around 0.8776 at the close of trade on Tuesday, 31 October 2017. The 5-day performance of the pair has shown steady declines from around 0.896 to its current level. Sterling traders are buoyed by news from the EU that inflation didn’t rise as much as expected. When inflation data and European gross domestic product (GDP) was released, GBP rose 0.17% against the EUR in the early morning trading session.

Several countries posted their GDP and inflation results, starting with France (GDP +0.5% in Q3 2017, with inflation of 1.2% year on year), and Italy (inflation of -0.2% year on year). For ECB president Mario Draghi, this presents a dilemma. The ECB reduced its quantitative easing in mid-October, pending strong GDP growth in the Eurozone. However, weakness in inflation growth is deeply troubling to the European Central Bank which must now make hard decisions about the future of its monetary policy.

The news from Italy is particularly distressing to European policymakers. As one of the big 3 European economies, Italy remains an important cog in the wheel of European economic growth. On Friday, 27 October 2017, credit ratings agency Fitch upgraded Italy’s rating to BBB. Reuters also reported that the yield on the 10-year treasury bond plunged to 1.837% on Tuesday, October 31, 2017.

 

Transatlantic Factors Cap GBP Gains

Transatlantic Factors Cap GBP Gains

 

In the US, several issues are driving the economic and political debate, including the scathing indictments handed out by the special counsel against two high ranking Trump campaign advisors – Paul Manafort and a close associate of his. Depending on how deep these ties go, the USD may be impacted by these charges. Other important announcements slated to take place in the US include the Fed FOMC decision on the federal funds rate on Wednesday, 1 November 2017.

The reputable CME FedWatch tool projects that there is a slim chance of an interest rate decision in November, with a 98% probability of rates remaining in the current range of 1.00% – 1.25%. The more likely scenario is that interest rates will rise in the region of 1.25% – 1.50% (up 25-basis points) at the final meeting of the Fed FOMC on 13 December 2017. Currently there is a 96.2% probability of that occurring. The Fed decision to raise interest rates will be an important one for the US economy. Analysts agree that a rate hike has already been priced into the financial markets, and we will only see a slight bump in the GBP/USD.

 

Concerns over the Future of Fed Leadership

Sterling rose somewhat against the USD, hitting 1.3204 in the early session before rallying towards 1.33 by the late afternoon. GBP gains against the USD have been solid since Friday, October 27 when it was trading around 1.3091. Pressures are also mounting on the greenback as uncertainty looms over the future of the next Fed chair. Janet Yellen is expected to vacate her post, as Trump wants to mark his presidency without one of President Obama’s appointees. Currently, reports suggest that Jerome Powell may be next in line. Janet Yellen will be leaving her position in February 2018, and it is up to President Donald Trump to nominate a candidate for the next 4 years.

The reason why the Fed chair’s position is so important is clear: hawkish or dovish policy can dramatically affect the future of monetary policy at the world’s most important central bank. Since this nomination can last for 4 years, it is particularly important that markets have a degree of certainty. For opponents of Trump, there is little to be angered about since Jerome Powell is cut from the same cloth as Janet Yellen – both are doves and prefer lower interest rates. This indicates that the USD may track weaker over time.

What are your expectations about GBP strength and USD weakness as we close out 2017? Do you feel that the fall in EU inflation figures will impact the UK economy?

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Brett Chatz

About Brett Chatz

Brett Chatz is a graduate of the University of South Africa, and holds a Bachelor of Commerce degree, with Economics and Strategic management as his major subjects. Nowadays Brett contributes from his vast expertise in online trading for iForexTrader.co.uk.

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