Craig Ince
November 19, 2021

Euro Continues Failure to Hold its Own Against Sterling and US Dollar

GBP

The pound has again rallied and shown its strength against the Euro, a high of 1.1930 was reached yesterday (Thursday) creating the best rates for Euro buyers since 26 February 2020. The main reasoning behind this recent bout of strength is the release of two solid economic reports this week. Tuesday saw the release of some impressive UK jobs reports, the figures published by the Office of National Statistics (ONS) stated nearly 15,000 less people in October were seeking out of work benefits. The ONS figures also read that employment numbers grew to 247,000 in the three months to September, smashing the analyst’s prediction of 185,000. The big fear post-furlough scheme was the level of potential increase in unemployment levels. Tuesday’s statistics provided a 0.1% better than forecasted unemployment rate of 4.3%. The second data release was Wednesday’s Inflation data release, inflation rose 4.2% in October, the fastest increase in a decade, up from 3.1% in September. The forecasters anticipated a reading of 3.9%. All eyes now switch to December’s Bank of England meeting, with the heat slowly increasing on the monetary policy committee to react.

What else can affect the pound?

Savvas Savouri, Chief Economist at Toscafund Asset Management believes the pound could ‘gap’ higher with the potential for a near vertical market move. Savvas included a strong UK economic backdrop, sensible bank rate rise and also the increased demand for the Chinese Yuan currency. The last point being an interesting one, a point which is completely outside of the usual interest rate hike and economic data talk. As of late the Chinese Yuan has been in increased demand across the globe. A harmonious virtual meeting earlier this week between Biden and Xi Jinping supported risk on investor mood. China is still heavily sanctioned by the US, but this meeting could show signs the relationship is getting better.

The Peoples Bank of China hold a ‘currency basket’ where roughly 20.6% is held in USD and around 2.75% in GBP.  The Basket is made up of a number of currencies and is estimated to be around the equivalent of $3 trillion. The Chinese government controls the value of the Yuan by buying and selling other currencies to ‘alter’ the value of their currency, to keep exports cheap. Chinese companies at the end of the year are encouraged to sell off US dollars and drive the demand for the local currency. The theory is it creates less US dollars held in reserve and opens space for other currencies such as the pound to be bought and held in the bank’s reserve. High demand for Sterling by the central bank of the world’s second largest economy, could drive the value of the pound.

EUR

The Euro again has failed to hold its own against Sterling and the Dollar as of late, EUR/USD levels sank to a 16-month low and a new 21 month high created against GBP/EUR. The European Central Bank (ECB) has continued to stick to its soft tone even though widespread inflation is prompting US and UK policymakers to increase talks about raising interest rates. A move Christine Lagarde keeps on putting off in her post meeting comments. EUR/USD sank into the $1.13 range this week off the back of this.

Eurozone CPI has also increased with annual gains reaching 4.1% in October, a 13 year high. But the markets and investors have a suppressed view on longer term inflation across the Bloc. The ECB has continuously missed out on its 2% inflation target. ECB president Christine Lagarde’s repeated tone and dismissing comments on ‘wagers’ of rate rises, stating they are not in line with the central bank’s guidance. The news of the soft ECB approach is beginning to get through to investors. There are some comments from analysts that the ECB think they know better than what the markets are telling them. Which can be a dangerous move, especially with supply bottlenecks, Covid and rising inflation all in the mix.

Markets are now pricing in a tiny rate rise in early 2023 after Lagarde told the European parliament on Monday that tightening monetary policy now, would do ‘more harm than good’ and conditions for a rate rise were ‘very unlikely to be met next year’. ECB are set to publish their inflation forecast for 2024 on 16 December. This meeting is also tipped to have the plans to derail the €1.85 trillion bond buying scheme, which is set to end in March 2022. With the bank not set to touch interest rates, this news could provide some much-needed strength for the Euro.

A weak Euro is attractive for exporters in the Eurozone however it increases prices of imports which have been rising rapidly. Isabel Schnabel an ECB board member commented that a weak Euro could add 0.2-0.3% to inflation levels on the continent.

USD

The Federal Reserve announced earlier this month that it will begin tapering its quantitative easing programme, that was launched during the pandemic. The $120 billion dollar asset purchasing programme is to be lowered by $15 billion a month. It is set to begin later this month, much earlier than many first anticipated. At this pace the tapering would be complete by June 2022. Jerome Powell the chair of the Federal reserve is still dovish on inflation and sees it as transitionary. He was keen to split apart the tapering of asset purchasing and raising interest rates, adding the criteria that needed to be met for an interest rate hike was more intense than the criteria needed for asset tapering. With Inflation in the US now at 6.2%, an increase of 0.9% from month to month, it’s surprising the Fed are being so soft on their outlook. Some analysts are questioning how much longer the rates can remain at 0. The Fed have already said they won’t start raising rates until after tapering is complete. Markets are pricing in the first US interest rate hike in July 2022, with an overall 50 basis point increase by year end. Investors should watch out for any advancements or change of tone in the Feds approach to tapering. If the pace of tapering enhances then in theory, it should bring forward the rate hike but also be aware the bank may not stick to this July pricing in.

Data coming out of the US is still showing the country is nearly back to its pre-pandemic best. Yesterday’s Initial Jobless claims, a piece of data which measures the number of people who have filed for unemployment insurance for the first time in the last week, data showed a 5th consecutive week drop in Jobless claims. The most recent non-farm payroll data was also a strong one, a clear insight to the US labour recovery.

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