GBP/EUR: Will the ECB Taper & Extend the Bond-Buying Programme?

26.10.17
4 minute read
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Following a stronger than forecasted UK GDP reading, the pound rallied versus the euro. The pound euro exchange rate jumped 1% from its low, to a daily high of €1.1260. The pair then eased back slightly towards the end of the day, closing at €1.1228 for sterling.

What do these figures mean?
When measuring the value of a pair of currencies, one set equals 1 unit and the other shows the current equivalent. As the market moves, the amount will vary from minute to minute. For example, it could be written: 1 GBP = 1.13990 EUR Here, £1 is equivalent to approximately €1.14. This specifically measures the pound’s worth against the euro. If the euro amount increases in this pairing, it’s positive for the pound. Or, if you were looking at it the other way around: 1 EUR = 0.87271 GBP In this example, €1 is equivalent to approximately £0.87. This measures the euro’s worth versus the British pound. If the sterling number gets larger, it’s good news for the euro.

First estimates show that the British economy grew more quickly in the third quarter than what analysts had been anticipating. According to the Office of National Statistics, the UK third quarter GDP came in at 0.4% quarter on quarter. This figure not only beat the analysts’ 0.3% forecast, but also the 0.3% growth of the two previous quarters. Year on year, growth remained constant at 1.5%.

Despite the higher than expected GDP growth, the figure is below the UK long term average. Which puts the UK on course for its worst level of growth since the financial crisis. However, the figure also suggests that the UK economy is showing some level of resilience despite Brexit related uncertainty. Following the reading, investors are now more confident that the Bank of England (BoE) could increase interest rates at the monetary policy meeting on November 2nd.

What do these figures mean?

When measuring the value of a pair of currencies, one set equals 1 unit and the other shows the current equivalent. As the market moves, the amount will vary from minute to minute.

For example, it could be written: 1 GBP = 1.13990 EUR

Here, £1 is equivalent to approximately €1.14. This specifically measures the pound’s worth against the euro. If the euro amount increases in this pairing, it’s positive for the pound.

Or, if you were looking at it the other way around: 1 EUR = 0.87271 GBP

In this example, €1 is equivalent to approximately £0.87. This measures the euro’s worth versus the British pound. If the sterling number gets larger, it’s good news for the euro.

The pound may struggle to hold onto yesterday’s gains if the UK economy continues to show signs of weakness. Investors will now turn their attention to Confederation of British Industry (CBI) retail data. The CBI retail sales index is expected to drop dramatically from 42 to just 15, which is unlikely to instil confidence in the UK economy.

Euro awaits ECB taper news

Strong German Business sentiment supported the euro on Wednesday. The German business climate index jumped to the highest level on record instead of the expected marginal drop. Sentiment in German businesses appears to be better than ever and this kept demand for the euro strong, albeit weaker than that for the pound.

Why does strong economic data boost a country’s currency?
Solid economic indicators point to a strong economy. Strong economies have strong currencies because institutions look to invest in countries where growth prospects are high. These institutions require local currency to invest in the country, thus increasing demand and pushing up the money’s worth. So, when a country or region has good economic news, the value of the currency tends to rise.

The news of strong German business optimism excited euro traders ahead of today’s European Central Bank (ECB) monetary policy meeting with the Governing Council. Analysts are expecting the Governing Council to discuss the winding down of the quantitative easing (bond-buying) programme. With the bond-buying programme, the ECB purchases corporate bonds like any other investor who would have normally bought them. Because the ECB has already acquired the corporate bonds, the investor can no longer purchase them, and therefore have money to invest elsewhere. This is how the ECB increases liquidity in the economy. The council is expected to cut the amount of bonds being purchased each month to around €30 billion. This is considered a form of monetary tightening as less money is being pumped into the system. It would, therefore, be supportive to the euro. However, there’s a strong possibility that the ECB will look to extend that end date of the bond-buying programme. Should this be the case, the euro could be less attractive. It would be a case of less bond-buying but over a longer period.

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