Euro Slides Versus the Pound as Spanish Independence Vote Looms

TransferWise content team
3 minute read

The pound euro exchange rate charged higher as investors continued to digest the German election result. Monday, the first trading day after the Sunday election saw the euro drop 0.5% versus sterling. As a result, the pound euro exchange rate climbed up to a high of €1.1394 before easing back slightly towards the end of the day.

Demand for the pound is generally weak, albeit stronger than that for the euro. There is little in the way of high impact economic data for pound traders to focus on today. Instead investor’s attention remains on the Brexit negotiations in Brussels and any relevant headlines. A joint press conference between UK Brexit Minister David Davis and Chief EU negotiator Michael Barnier will be held on Thursday. This will be particularly important in assessing whether sufficient progress has been made in the talks, to progress to the next phase of negotiations.

Time keeps moving and if insufficient progress is made then there is a fear that no deal between the UK and the EU will be reached. No deal will be bad news for UK businesses as it means a cliff-edge end to the UK’s European membership, with many unknowns which is bad news for business. Any signs of progress in the talks increases the chances of a smooth Brexit which is positive for the pound.

Why is a smooth Brexit good for the pound?
A smoother Brexit would be a scenario in which the economic consequences of leaving the European Union are minimised. This is favourable for the pound because the less the Brexit impact on the economy, the more likely that foreign investors will remain interested in the UK. Foreign investors need sterling to invest in the country and so the more GBP is purchased, the higher the demand and, thus, an increase in the currency’s value.

Euro loses ground as concerns grow for political stability in the bloc

The majority of the headlines surrounding the German election has centred on the return of the far right to the Bundestag, the German Parliament, for the first time since the second world war. This, in itself, isn’t a problem for the euro as German Chancellor Merkel will not be looking to build a coalition with the far right.

The German elections are out of the way and populism showed that it is alive and well in Europe. However, the bigger risk for the euro could now be from Spain rather than from Germany. The Spanish region of Catalonia is planning on holding an independence referendum on Sunday October 1st, which has been deemed illegal by Spanish authorities.

Judging by recent history, independence referendums have proved disruptive for currencies so the euro could come under pressure over the coming days as eyes turn towards Spain.

How does political stability boost a currency?
Political stability boosts both consumer and business confidence, which means corporations and regular households alike are more likely to spend money. The increased spending, in turn, then boosts the economy. Foreign investors prefer to invest their money in politically stable countries as well as those with strong economies. For foreign investors to put their money into an economy, they need local currency. As they acquire the money needed, the demand for that particular currency increases, which then boosts its value.
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