GBP/USD: Pound Stronger vs Dollar Ahead Of Brexit Vote

The pound bounded higher on Monday, extending Friday’s gains. The pound US dollar exchange rate rallied to a high of US$1.2930. This is the strongest level that the pair has traded at in over 2 months.

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 was in demand in the previous session as investors look ahead to today’s Brexit vote in Parliament. UK Prime Minister Theresa May is set to face a humiliating defeat on her Brexit deal. Political analysts were expecting the PM’s draft withdrawal bill to be defeated by a large majority when voted on in the House of Commons.

Reports are suggesting that after the defeat Theresa May is expected to announce that she will head back to Brussels in an attempt to secure a legally binding confirmation from the EU regarding the Irish backstop. Political commentators are also saying that Theresa May will postpone Article 50 in order to prevent alarm amongst the public and businesses. This is offering the pound support and is the reason that the pound is stronger before this vote than the previous vote one in December.

Delaying Article 50, means the UK will not leave the EU on 29th March. This means that the option of crashing out of the EU without a deal has been reduced. Any steps which point towards a softer more orderly Brexit are supportive of 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.

Growth Concerns Pull Dollar Lower

The dollar traded lower across the board on Monday and was seen extending those losses on Tuesday. The dollar continues to be out of favour following a more dovish tone to the Federal Reserve. Since Fed Chair Jerome Powell showed signs of cautions in a speech in early January, investors have been wary of the dollar. Jerome Powell highlighted concerns over the outlook of the US economy and the global economy, which may prevent the Fed from hiking this year. Ex Fed Chair Janet Yellen also confirmed that she believed that the Fed will not be raising rates again in this cycle.

Data out of China on Monday showed that the world’s second largest economy was showing signs of slowing. This unnerved dollar traders, who see the chances of a rate hike fading, sending the dollar lower.

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.

As the US government shutdown continues there is no high impacting US data to be released.

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