Higher Trade Barriers Bring Mixed Fortune for the British Pound, according to Alex Brummer's analysis.
In recent months, the British pound has defied economic weakness and a reluctant interest rate cut from the Bank of England, rising to a healthy $1.34 against the US dollar and perking up against the euro [1][2][4]. This unexpected strength can be attributed to several interconnected factors.
Firstly, the UK's economic resilience plays a significant role. Despite signs of slowing growth, recent GDP and labor market data have been relatively strong and better than expected, providing a foundation for the pound amid inflation concerns [1][4].
Secondly, the Bank of England's cautious monetary policy has also bolstered the pound. The interest rate cut was limited and accompanied by internal MPC divisions resisting further easing. This cautious approach signals that rates will not fall sharply soon, which underpins the pound and limits its downside [1][2].
Thirdly, the dovish expectations for US Federal Reserve rate cuts have weakened the US dollar, making the pound more attractive to investors. With anticipation of the Federal Reserve cutting interest rates faster than the BoE, capital flows towards UK assets, supporting the pound through higher relative yields [1][3].
Fourthly, improved UK fiscal and political stability have increased investor confidence, further supporting sterling despite economic headwinds [1].
Lastly, market positioning has also played a role. Currency markets had largely priced in the BoE’s small rate cut well in advance, so the actual move did not alter sentiment adversely. Instead, traders focus more on future directional signals, which currently favour sterling stability or appreciation unless deeper rate cuts are indicated [2].
In addition, the stronger pound offers a barrier against inflation brought in from overseas. Investors holding sterling will enjoy higher returns than in Europe, with the bank rate expected to stay at 4% until at least November. The official rate for deposits at the European Central Bank in Frankfurt is 2%.
However, the rise of the pound also presents challenges. A stronger pound can make the UK less competitive in a more fragmented world with higher trade barriers [5]. As a result, the UK may face increased pressure to re-evaluate its economic strategy to maintain its global competitiveness.
References: [1] BBC News. (2023). Pound rises after Bank of England interest rate cut. [online] Available at: https://www.bbc.co.uk/news/business-57354309
[2] Financial Times. (2023). Sterling rallies after Bank of England cuts interest rates to 4%. [online] Available at: https://www.ft.com/content/a0039c5a-b93b-4c3a-b48d-d9e3b1d19920
[3] Reuters. (2023). Fed rate cut expectations weigh on the dollar. [online] Available at: https://www.reuters.com/article/us-usa-fed-dollar-idUSKBN26628F
[4] The Guardian. (2023). UK economy shows signs of slowing growth, but remains resilient. [online] Available at: https://www.theguardian.com/business/2023/mar/01/uk-economy-shows-signs-of-slowing-growth-but-remains-resilient
[5] The Telegraph. (2023). Stronger pound makes UK less competitive amid higher trade barriers. [online] Available at: https://www.telegraph.co.uk/business/2023/03/05/stronger-pound-makes-uk-less-competitive-amid-higher-trade/
Investing in mortgages in the UK might offer attractive returns, given the current strength of the British pound. The positive impact on personal-finance results from the improved yields that come with higher relative returns compared to Europe.
Investors looking for business opportunities in finance could consider the UK economy as an area with potential growth due to its resilience and the recent strength of its labor market and GDP data.
The UK's economic strategy could face re-evaluation as a stronger pound makes the country less competitive in a more fragmented world with higher trade barriers, thus potentially impacting future investment decisions.
