The pound spiked higher on Tuesday on hopes of a second referendum, before returning to negative territory post Prime Minister Theresa May’s Brexit speech. The pound euro exchange rate rallied to a peak of €1.1459 before easing back towards €1.1380 for the close.
|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. 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 GBPIn 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.|
Hopes of a second referendum sent the pound charging higher on Tuesday afternoon.
However, Theresa May’s desperate gamble to get her Brexit deal through Parliament fell flat, dragging the pound lower. Whilst Theresa May promised Parliament the option to vote on a second referendum, she made the offer conditional to ministers first backing her deal.
The backlash from MP’s started as soon as her speech had finished sending the pound tanking lower. Theresa May’s fourth attempt to push her deal through Parliament looks destined to fail. Pound traders are growing increasingly concerned that Theresa May will be replaced by a pro-Brexit candidate meaning a no deal Brexit could be a very real option.
|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.|
Today investors will continue to monitor developments in Westminster. They could also glance towards UK inflation data in the form of consumer price index. Analysts are expecting UK inflation to tick higher in April to 2.2%. This would be above the Bank of England’s target of 2%.
Under normal circumstances a central bank would hike interest rates to bring inflation back towards the target level. However, as the BoE have their hands tied over Brexit the pounds reaction to stronger inflation could be muted.
|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.|
The euro was broadly in favour in the previous session, thanks to an improvement in consumer confidence in the bloc. Data showed that consumer morale in the eurozone increased by 0.8 to -6.5 in May, its highest level in 7 months. Analysts had been expecting consumer confidence to remain depressed at -7.7.
When consumers are confident, they spend more which helps to boost the economy. Therefore, the improvement in consumer confidence in the bloc could underpin modest economic growth in the bloc in the second quarter of the year. The data lifted the euro.
There is no high impacting data today. Investors will look ahead to the release of the minutes from the latest European Central Bank policy meeting on Thursday.
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