GBP/EUR: Pound Drops vs. Euro After PM May Frustrates EU Leaders

The pound moved higher versus the euro in the previous session. However, the pair closed well off the session high of €1.1169. The pound was tumbling lower again versus the euro, in early trade on Friday.

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.h 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 GBPIn 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.

Pound traders continued celebrating UK Prime Minister Theresa May’s win on Tuesday. After seeing off a coup from the Eurosceptics in her party, Theresa May was once again back to Brussels to try to gain some reassurances from Europe ahead of a vote in Parliament, most likely early next year. The arithmetics for the vote still look terrible, though. 200 Conservatives supported Theresa May in the vote of no confidence. She needs 350 votes supporting her Brexit deal for it to go through Parliament. This will be even more difficult given that Brussels is showing few signs of wanting to make Theresa May’s life easier.

Today is the second day of the EU Summit. Theresa May arrived to a warm welcome, however, she quickly frustrated and alienated fellow EU leaders. Rather than looking for reassurances, she has been accused of revisiting old ideas that were rejected during the negotiation process. She’s also been accused of being unprofessional and unclear in what she was after. All in all, it was a disastrous evening for the PM. So far, she is empty handed, which increases the chances of Brexit not making it through Parliament and the UK leaving without a deal.

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.

ECB end asset purchases

The euro was under pressure in the previous session following a more cautious European Central Bank (ECB) President Draghi. As analysts had widely predicted, the ECB didn’t raise interest rates, but they did end the asset purchase programme. After 4 years of bond buying, the central bank will no longer be offering that support to the monetary system. Ending an asset purchase programme is actually a tightening policy so should lift the value of the money. However, at the same time as ending the programme, Draghi made cautious comments. Concerns over slowing growth momentum were clear and Draghi said that the risks are now to the downside. This means any interest rate rise could be pushed back even further. As a result, the euro fell.

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.

Today investors will be looking closely at PMI data from Germany and the eurozone. Weakness in the data would support Draghi’s concerns and could pull the euro lower.

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