GBP/EUR Pound Reacts Poorly as Bank of England Cuts Growth Forecast

With disappointing inflation figures from both the eurozone and the UK, the pound euro exchange rate remained relatively flat on Wednesday. The pound slipped to a low of €1.1260 before paring losses and ending the session 0.1% higher at €1.1306. The pair is edging lower in early trade on Thursday.

 

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

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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.

 

The pound was broadly under pressure in the previous session as UK inflation fell by more than what analysts had been expecting. UK inflation dropped to 1.7% in August. This was down from 2.1% in July and also below the Bank of England’s 2% target rate. Inflation is at its lowest rate since late 2016.

The low level of inflation, plus employees enjoying strong levels of wage growth means that households are in the most comfortable position that they have been for a while. This should boost spending which is good news for the UK economy. However, inflation falling away from the central bank’s target will encourage the central bank to consider cutting interest rates over raising rates.

 

Why do interest rate cuts drag on 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. Lower interest rate environments tend to offer lower yields. So, if the interest rate or at least the interest rate expectation of a country is relatively lower compared to another, then foreign investors look to pull their capital out and invest elsewhere. Large corporations and investors sell out of local currency to invest elsewhere. More local currency is available  as the demand of that currency declines, dragging the value lower.

 

Brexit also weighed on the value of the pound in the previous session. President of the European Commission Jean — Claude Juncker said that whilst a Brexit deal is still possible, the risk of a no deal remains very real. The EU have given the UK until the end of the month to come up with a new Brexit deal.

Today investors will turn their attention to the Bank of England rate decision. Given the lack of clarity surrounding Brexit, the central bank’s hands remain tied over policy. Analysts are not expecting the BoE to make any changes to policy. However, analysts believe the central bank could drop its hawkish bias, mainly owing to weak inflation. This could send the pound lower.

Eurozone Core Inflation At 3 Year Low

Weak eurozone inflation kept the pressure on the euro in the previous session. Inflation increased by just 0.1% month on month in August. This was just short of the 0.2% forecast. Headline inflation remained steady at 1% on an annual basis, whilst core inflation fell to just 0.9%. Inflation is the lowest that it has been since November 2016 and well below the European Central Bank’s 2% target. The figures are supportive of ECB President Draghi’s pledge of indefinite monetary stimulus to support the slowing economy and drive up inflation.

Today there is no high impacting economic data due to be released from the eurozone. Instead investors will look towards Friday’s consumer confidence figures for further clues as to the health of the bloc’s economy.

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