The pound euro exchange rate had a quiet session on Tuesday as Europe remains on holiday following the Christmas break. The pound euro exchange rate spent most of the previous session hovering around €1.1265, before managing to close the day higher for the pound.
|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.
In general, traders are finding little to get excited about in the lull between Christmas and the start of 2018, which is leaving them time to reflect on the year gone by. The pound has had a tough year, falling over 4% versus the euro. Politics, and more specifically Brexit, have been the principal drivers of sterling, which hit a low of €1.0743 versus the euro in August.
Politics will continue to be the main driver for the pound in 2018, as investors wait desperately for news on a trade deal with the EU. Headlines flowing from Brussels over progress of any potential trade deal will be the priority. This is because a strong trade deal could make the difference between a hard or soft Brexit which is hugely important for the pound.
|Why is a “soft” Brexit better for sterling than a “hard” Brexit?|
|A soft Brexit implies anything less than UK’s complete withdrawal from the EU. For example, it could mean the UK retains some form of membership to the European Union single market in exchange for some free movement of people, i.e. immigration. This is considered more positive than a “hard” Brexit, which is a full severance from the EU. The reason “soft” is considered more pound-friendly is because the economic impact would be lower. If there is less negative impact on the economy, foreign investors will continue to invest in the UK. As investment requires local currency, this increased demand for the pound then boosts its value.|
Meanwhile the euro has been the strongest-performing currency this year, out of the 10 major global currencies. At the beginning of 2017, the outlook for the euro was rather uncertain, with several potentially risky, political events across the year. The majority of these events worked in the favour of the euro, with the exception of two. These being, firstly, the independence flare up in Catalonia, Spain. Secondly, the absence of a government in Germany whilst coalition talks continue.
The region has enjoyed steady economic growth — which is projected to continue — and falling unemployment. Perhaps the only area of concern for the eurozone is its incredibly sluggish levels of inflation. Inflation is refusing to pick up in the region despite robust economic growth, and is unlikely to increase much over the coming year. Low inflation means the odds of the European Central Bank (ECB) hiking interest rates in the coming year are quite remote. When the odds of an Interest rate rise are low, the currency can struggle to increase in value.
|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.|
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.