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Craig Ince
October 25, 2021

All Eyes on Wednesday’s Budget Announcement

Omicron Developments Sent the Sterling Lower

GBP

Recent weeks have seen the pound climb to the highest level against the Euro since the pandemic began. The recent high of 1.1871 tops the previous high of 1.1833 set in August. The pound finished the week slightly softer, with the Bank of England warning Inflation could hit 5%. Retail sales in the UK unexpectedly dropped 0.2% month on month in September. Expectations were that retail sales would increase by 0.5% but instead the UK saw a fifth consecutive monthly decline. This is the longest unbroken run of declining sales since the survey began in 1996. The data was largely driven by a 10% reduction in household good sales which offset higher fuel sales. The upcoming week is likely to be key for the longer-term trend of the pound, the chancellors budget is on Wednesday and the flash PMI index was released on Friday just gone, which provided a measure of the health of the services and manufacturing sectors. The figures released on Friday show the PMI index rose to a three-month high of 56.8 in October, up from 54.9 the previous month. The increase was driven by the services sector, which accounts for 80% of the economy. With public confidence amid rising Covid case numbers, supply chain issues and the energy market crunch, the PMI data release provided some much-needed economic data to support the pound. The data inevitably provides support for the raise in interest rates, the UK Economy is starting to pick up pace again. Recent data releases are tipped to add more fuel to the fire on already existing inflation worries. When you take a step back and look at the pound you have to give credit to its recovery. GBP/EUR trading at pre pandemic levels and GBP/USD rates trading around 4 cents lower than its post pandemic high. Admittedly cable rates are not at their peak largely to the USD safe haven asset status but on the bigger picture, cable is trading around 24 cents higher than its pandemic lows. This is more impressive when you consider global economic conditions, supply chain issues, Brexit and the energy crisis.

The budget on Wednesday could shape how the country copes in what is tipped to be a difficult winter. Rishi Sunak has a variety of tools to shape the UK economy. He is tipped to cut VAT on energy bills by 5%, which could be a popular decision amongst the UK public amidst all the well-known news of rising cost of energy. However, it is estimated this could cost £1.5bn a year. Sunak is also set to announce £6bn investment into the NHS to reduce waiting list times and invest in new technology.

EUR

Euro again has struggled to hold its own against the pound and the Dollar, as mentioned above GBP/EUR rates hit a 20-month high. EUR/USD rates throughout October were trading at the lowest levels since July 2020. The European Central Bank (ECB) has been continuously soft on their approach to tapering monetary policy and raising interest rates. However, some believe EUR/USD is more susceptible to global risk sentiment movement and not interest rate news, due to it being the largest traded currency pairing. One big issue for the ECB is that its rate setters are deeply divided. Their stance is that the current spike in Eurozone inflation will be temporary and that the growth in consumer prices will ease next year as the effects of the post-pandemic bounce in the economy wear off. Evidence of this was seen last week where two of the ECB’s key ‘economic thinkers’ had disagreed over how likely it was that the recent sharp rise in Eurozone inflation would become permanent. Chief Economist of the ECB Philip Lane, a dovish member, argued that growth was likely to be dragged down. Whereas Isabel Schnabel, a hawkish member, warned of more persistent inflationary pressures. Jens Weidmann, the Bundesbank President who is a notoriously hawkish member has recently stepped down, as the number of dovish members heavily outweigh the more hawkish members of the board. This week’s ECB meeting will end with all the Eurozone central bank’s monetary policy guidelines and interest rate decisions left as they are. The weak ECB stance is shown the fact they are said to be hoping the Euro has no more adverse movement off the back of their statement and press conference, if this is the case then they will class the meeting a success. Its well known in the markets that the ECB will not make any ‘difficult’ decisions until December when the members post their economic projections.  October inflation figures for the Eurozone are due on Thursday and Friday. Thursday’s data release looks at third-quarter GDP growth. On Thursday Germany’s consumer price data is released in the gap between the ECB’s policy statement and President Christine Lagarde’s news conference, so Thursday lunchtime could see some volatility for the Euro.

USD

The Dollar has continued to hold its own against most major currency pairings for the majority of October, the energy crisis adding further fuel to the greenbacks safe haven status.  However as of recent days the Dollar is slowly loosening its tight grip. Friday saw Federal reserve (Fed) Chairman Jerome Powell comment that the US central bank is on track to begin the bond tapering programme. Furthermore, he added that if the economy evolves as the Fed expected, the Quantitative Easing reduction program will finish by mid-2022. Nevertheless, he reinforced that once the bond tapering ends, that would not necessarily mean hiking rates straight afterwards. There could be some headwinds ahead for the dollar as some Fed members expect a slowdown in US economic recovery, supply chain bottlenecks and labour shortages have been more persistent and widespread across the country than first thought. This week there are several data releases for the U.S which will all be pieced together to try and gauge overall health of the US economy, readings for inflation and the recent weakness in the Dollar may turn out to be a correction. US GDP figures released this week are set to show the slowing of the US economy. If any evidence comes out of the data releases of the potential for a ‘sticky’ period of price growth, pressure will be put on the central bank to react at the next interest rate decision on 3rd November.

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