Pound vs. Euro Driven by Political Developments in UK and Germany As T

22.01.18
4 minute read
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The pound put in a strong performance versus the euro in the previous week, gaining 0.6%. The weekly gain came despite the pound moving lower versus the common currency on Friday. Friday was the first losing session in four for the pound euro exchange rate. The rate ended the week at €1.1335.

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 fell on Friday as market participants digested weak retail sales figures. Data showed that retail sales increased just 1.3% year on year in December, significantly lower than the 2.6% that analysts had pencilled in. Meanwhile on a monthly basis retail sales declined -1.6%, ahead of the 1% decline that analysts had expected.

These figures showed that the UK consumer reined in their spending in December. The slowing in spending comes in response to the higher prices and lower wages in real terms that households are experiencing since the pound dropped heavily following the Brexit referendum. The numbers are concerning because Britain's economy is so heavily reliant on the service sector and consumer spending. The pound dropped following the release.

Today there is no influential economic data on the UK economic calendar. Instead the pound could find support from Brexit headlines which have indicated that the UK could be in with the chance of a bespoke trade deal after Brexit. The hope stems from comments by French President, Emmanuel Macron, who suggested that the UK would have its own special agreement that fell halfway between a Norway style single market agreement and a free trade agreement. The comments have boosted hopes of a softer Brexit, after EU Chief negotiator had previously implied this wasn’t on offer. A softer Brexit is more beneficial for the pound.

Why is a “soft” Brexit better for sterling than a “hard” Brexit?
A soft Brexit implies anything less than UK’s complete withdrawal from the EU. For example, it could mean the UK retains some form of membership to the European Union single market in exchange for some free movement of people, i.e. immigration. This is considered more positive than a “hard” Brexit, which is a full severance from the EU. The reason “soft” is considered more pound-friendly is because the economic impact would be lower. If there is less negative impact on the economy, foreign investors will continue to invest in the UK. As investment requires local currency, this increased demand for the pound then boosts its value.

Germany moves closer to a new coalition government

The euro could find itself supported as the markets open on Monday, as Germany took a step closer towards forming a coalition government. The SPD party voted in favour of formal coalition talks on Sunday, which could see Angela Merkel return to office for a fourth term after a four-month political deadlock.

The breakthrough will prompt relief in Germany as well as in Europe as a whole. A sympathetic leader in Germany is needed in order for Macron and other EU leaders to push ahead with a sweeping overhaul of the European Union. Signs of political stability in Germany could boost the euro.

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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