The pound finished the previous week lower versus the dollar for the second consecutive week. The pound US dollar exchange rate dropped to a low of US$1.31 before hitting a high of US1.3316 as Brexit, optimism over a Bank of England (BoE) interest rate rise in August, trade war concerns and encouraging comments from the Federal Reserve all drove trading in the pair.
|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 = 1.28934 USD Here, £1 is equivalent to approximately $1.29. This specifically measures the pound’s worth against the dollar. If the US dollar amount increases in this pairing, it’s positive for the pound. Or, if you were looking at it the other way around: 1 USD = 0.77786 GBP In this example, $1 is equivalent to approximately £0.78. This measures the US dollar’s worth versus the British pound. If the sterling number gets larger, it’s good news for the dollar.|
The pound received a boost last week as UK Prime Minister Theresa May successfully faced down rebels in her own party to win a key vote on the Brexit Bill, which kept the power in the hands of the Prime Minister even in the case of a no deal Brexit. The pound rallied as the political climate stabilised, albeit slightly.
|How does political risk have impact on a currency?|
|Political risk drags on the confidence of consumers and businesses alike, which means both corporations and regular households are then less inclined to spend money. The drop in spending, in turn, slows the economy. Foreign investors prefer to invest their money in politically stable countries as well as those with strong economies. Signs that a country is politically or economically less stable will result in foreign investors pulling their money out of the country. This means selling out of the local currency, which then increases its supply and, in turn, devalues the money.|
The Bank of England also gave the pound a boost at the end of the week with a shift in the vote split to 6-3 in favour of holding rates steady, up from 7-2, lifting investor optimism that a rate hike could still be on the cards for August.
|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 start of the week is quiet on the UK economic calendar meaning that Brexit headlines could once again be the principal factor influencing sterling. As more and more headlines surface suggesting that the U.K. is on course for a no deal Brexit, the pound could struggle to move higher.
At the end of last week, the EU initiated trade levies of €2.8 billion worth of US imports in retaliation of the tariffs that President Trump had placed on EU steel and aluminium imports. Not one to take such a move lying down, Trump threatened to place 20% tariffs on EU car imports. At every turn Trump is showing that he has no interest in backing down, making a full-blown trance war increasingly likely. The threat of more friction with China, Europe and other countries across the globe has sent investors in search of the dollar, for its safe haven status.
The US economic calendar has only new homes data due for release. Analysts view this as mid tier data, or data or medium importance. Any further information on the unfolding trade war is likely to direct trading in the dollar.
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.