Can This Week's Brexit Papers Pick the Pound Up From 7 Year Low Versus Euro?

21.08.17
3 minute read
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The pound euro exchange rate finished the previous week just over 0.5% lower, as mixed UK data and disappointing minutes from the European Central Bank (ECB) weighed on sentiment for both currencies.

Heading into the new week, the pound is edging marginally higher versus the euro at €1.0956. However this is still the weakest level for the pound versus the euro since 2003, excluding the flash crash last October.

In a relatively quiet start to the week with regards to economic data, Brexit could remain in focus for pound traders. The UK is set to publish several more position papers this week. These papers are meant to outline its strategy positions in the divorce talks with the European Union. Last week saw the publication of proposals for future customs agreements with the EU and a proposed solution to the Northern Ireland border.

So far talks have been progressing very slowly and have been unable to move forward from a focus on divorce arrangements, such as how much Britain should pay and the future rights of British and EU citizens. The EU's top negotiator has even said that it’s unlikely that the next stage of talks on future relations will begin in October given the slow progress so far.

These position papers should serve to counter that criticism and offer a position from the UK, which has so far been lacking. This could serve to support the pound as it provides more confidence that a smooth Brexit could be on the cards.

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.

ECB President Draghi in the spotlight

This week could be a volatile week for the euro. The beginning of the week lacks high impacting economic data. However, the main focus for the euro will be on the annual Jackson Hole central bankers meeting on 24th to 26th August in Wyoming.

3 years ago Draghi used this meeting to pave the way for the eurozone bond-buying programme, which was implemented to help struggling eurozone economies following the bloc’s sovereign debt crisis. 3 years and €2.3 trillion later investors are expecting some hints from Draghi as to how the programme will be wound down. Whilst details aren't expected until later in the autumn, Draghi could give some clues through the change of tone in his language. Should this be the case then we could expect to see the euro rise. This is because as the end of the bond buying programme would be seen as a move to a tighter monetary policy, with an interest rate increase on the cards thereafter.

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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