Pound Lifts Versus Euro As ECB Has Cautious Tone in Press Conference

27.10.17
4 minute read
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The euro stumbled on Thursday as investors reacted to a euro negative European Central Bank’s (ECB) press conference. As a result, the pound euro exchange rate charged higher, reversing from a day’s low to €1.1166, to hit a daily high of €1.1269 for the pound. This is the highest level that the pound euro exchange rate has traded at in over a week.

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 also struggled on Thursday, although not as much as the euro. The Confederation of British Industry (CBI) released data that showed that UK retail sales took a dive this month. The CBI trade distribution index plummeted from 42 to -36, sharply below the level 15 that analysts had anticipated. Weak economic data normally causes a currency to fall.

Why does poor economic data drag on a country’s currency?
Slowing economic indicators point to a slowing economy. Weak economies have weaker currencies because institutions look to reduce investments in countries where growth prospects are low and then transfer money to countries with higher growth prospects. These institutions sell out of their investment and the local currency, thus increasing supply of the currency and pushing down the money’s worth. So, when a country or region has poor economic news, the value of the currency tends to fall.

The decline in retail sales is further evidence of the pressure being placed on the UK consumer as prices across Britain continue to rise, but consumer wages fall. It’s a worrying sign for high street as the crucial Christmas trading period approaches. Furthermore, economists believe that the downturn in retail sales could prevent the Bank of England (BoE) from raising interest rates at the monetary policy meeting next week.

There’s no high-impacting data on the UK economic calendar today. Instead, investors will shift their focus to the BoE meeting next week.

ECB’s President Offers Conservative Tone on EU Interest Rate Hikes

As analysts had predicted, the ECB announced it will reduce its bond-buying programme by half as from January 2018. Instead of €60 billion of bond purchases per month, the central bank will purchase €30 billion. Cutting the amount of bonds being bought by the central bank is an action which should boost the value of the euro.

However, Draghi’s speech had a noticeable conservative tone to it, which sent the euro plummeting. Draghi said that the ECB would be extending the programme beyond its planned conclusion in January, out until September. Furthermore, the bank added that it’s prepared to extend the programme even further, or increase the amount of bonds they purchase each month, should EU economic conditions worsen. Finally, ECB President Mario Draghi continued with his line that interest rates wouldn’t be raised until well past the end of the bond-buying programme.

Investors are realising that the ECB is therefore not intending to raise interest rates until at least the beginning of 2019. As the chances of an interest rate rise were pushed further into the distance, the euro dropped.

Why do raised interest rates boost a currency’s value?
Interest rates are key to understanding exchange rate movements. Those who have large sums of money to invest want the highest return on their investments. Higher interest rate environments tend to offer higher yields. So, if the interest rate or at least the interest rate expectation of a country is relatively higher compared to another, then it attracts more foreign capital investment. Large corporations and investors need local currency to invest. More local currency used then boosts the demand of that currency, pushing the value higher.
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