The pound euro exchange rate tumbled lower on Monday as investors became increasingly nervous over political stability in the UK. The pound tumbled almost 100 points from a daily high of €1.1305 to a low of €1.1207, before it climbed higher into the close of the trading session. The pound last traded at this low level when the Bank of England (BoE) disappointed the markets with a “one and done” interest rate hike, at the beginning of the month.
|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.
For example, it could be written: 1 GBP = 1.13990 EUR
Here, £1 is equivalent to approximately €1.14. This specifically measures the pound’s worth against the euro. 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 GBP
In 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.
The pound fell due to concerns that UK Prime Minister Theresa May could face a leadership battle after it was reported that 40 Conservative party MP’s have said they are ready to sign a letter of no-confidence against Theresa May. The pressure has been mounting on May as her time in power has been tainted with a catalogue of scandals and errors of judgement. The resultant political uncertainty weighed heavily on the pound and investors will be watching any new developments carefully. However, the fact there is no clear alternative leader in her party is working in May’s favour. Removing May from power could result in more chaos as it could create a political vacuum in the Conservative party.
While pound traders will also be focusing on inflation figures today. Inflation, as measured by the consumer price index (CPI) is expected to reach 3.1% in October, up from 3% in September. The CPI simply measures changes in the prices of consumer goods and services purchased by households. Inflation is a major concern for the Bank of England (BoE). The central bank raised interest rates at the beginning of the month in order to try to bring inflation back down closer to the BoE’s target level of 2%. The BoE has forecasted that inflation will continue to climb before easing back next year. However, a strong inflation reading today will boost the pound. This is because if inflation increases so do the odds of the central bank raising interest rates again.
|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 had a relatively quiet start to the week, however today euro traders could see more volatility in the value of the currency. The two central focuses for today are the appearance by European Central Bank (ECB) President Mario Draghi and eurozone GDP figures.
Analysts are expecting to see economic growth in the eurozone, for the third quarter, at a solid 2.5%. Economic growth in the eurozone economy has been impressive and a big story for 2017. The eurozone economy has come from a position of extreme weakness, where some countries had to be bailed out and receive economic stimulus, to becoming the “engine of global trade”, as described by the IMF. A strong reading today could inspire traders to buy into the euro.
|Why does strong economic data boost a country’s currency?
|Solid economic indicators point to a strong economy. Strong economies have strong currencies because institutions look to invest in countries where growth prospects are high. These institutions require local currency to invest in the country, thus increasing demand and pushing up the money’s worth. So, when a country or region has good economic news, the value of the currency tends to rise.
This article was initially published on TransferWise.com from the same author. The content at Currency Live is the sole opinion of the authors and in no way reflects the views of TransferWise Inc.