The pound fell against the euro on Wednesday as UK inflation failed to pick up in May and as euro traders look ahead to today’s European Central Bank (ECB) rate announcement and press conference. The pound euro exchange rate dropped to a low of €1.1330, before picking up marginally towards the close.
|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.
UK inflation remained constant in May at 2.4% year on year. Given that the price of oil has climbed sharply higher in recent weeks, there had been some optimism that inflation would have also pushed higher. That wasn’t the case leaving some investors disappointed. The lacklustre data comes following news earlier in the week that manufacturing output struck a 5-year low and that wage growth unexpectedly ticked lower. This together paints a concerning picture over the health of the UK economy, making the probability a rate rise by the Bank of England (BoE) later this summer, limited at best.
|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.|
Volatility in the pound could come from UK retail sales. Analysts are expecting sales to have increased 2.5% in May, up from 1.5% in April. Retail sales, which is consumers spending, are considered an indication of future inflation levels. A strong reading could provide some respite for the pound and boost optimism of a rate rise later this years.
Euro traders opted to ignore the weaker industrial production data on Wednesday. Industrial production increased by 1.7% year on year and decreased by a larger than expected 0.9% month on month in April.
Instead all eyes are towards today’s European Central Bank monetary policy decision, and pursuant press conference. The ECB not expected to change the monetary policy. However, the central bank is expected to have started discussions over how to end its current bond buying programme which is due to finish in September.
The markets are not expecting any timeline decision to be given today, however the fact that the ECB are discussing the winding down of the programme indicates that the central bank is confident that the eurozone economy is in good shape and ready for monetary policy to be tightened. Market participants will view this as the step preceding a rate rise, so the euro could receive a boost.
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.