Pound Drops vs. Euro on Brexit Fears & Weak Manufacturing Data

The euro weakened versus the pound on Monday. The pound euro exchange rate rallied to a peak of €1.1323, before easing slightly into the close. The pair is trading higher again in early trade on Tuesday.

Stronger than forecast UK GDP data lifted the pound in the previous session. The UK economy contracted -0.2% in the second quarter, as analysts had forecast. However, economic growth in the first quarter was revised higher to 0.6% from 0.5% quarter on quarter. This had the effect of lifting UK annual GDP to 1.3%.

The increase in GDP stemmed from stockpiling in the weeks before the first Brexit date. Whilst economic growth from stock piling is not sustainable, pound investors opted to ignore this fact and cheer the better than expected number.

Today investors will look towards the UK manufacturing purchasing managers index. In August manufacturing output slumped to a 7-year low as Brexit uncertainty and global trade tensions quashed demand.

Analysts are expecting the sector to contract further in September to just 47 on the index, whereby 50 separates expansion from contraction. There is a chance that we could see a slightly better reading if companies are resorting to inventory building again ahead of Brexit. If not, a weak reading could drag the pound southwards.


Why does poor economic data drag on a country’s currency?
Slowing economic indicators point to a slowing economy. Weak economies have weaker currencies because institutions look to reduce investments in countries where growth prospects are low and then transfer money to countries with higher growth prospects. These institutions sell out of their investment and the local currency, thus increasing supply of the currency and pushing down the money’s worth. So, when a country or region has poor economic news, the value of the currency tends to fall.


Will Eurozone Inflation Drag Euro Lower?

The euro was out of favour in the previous session after German inflation unexpectedly declined in September. Prices in Germany rose 0.9% compared to year earlier. This was less than the 1% increase that analysts had been expecting.

Germany continues to experience lacklustre inflation, which has now declined for three straight months. Furthermore, German inflation has been under the European Central Bank’s 2% target for 5 consecutive months. These figures are fuelling concerns that Germany, Europe’s largest economy is slowing considerably and tipping into recession in the third quarter.

Today investors will look ahead to eurozone inflation numbers. Analysts are predicting a tick higher in core inflation, which could offer some support to the euro after today’s decline. However, it is worth noting that the tick higher in core inflation would only take it to 1% which is still significantly short of 2% target. With such gloomy inflation figures investors are betting that the ECB will need to loosen monetary policy further.


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.


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.


This publication is provided as general information only and is not intended as an exhaustive treatment of its subject. TransferWise Inc. and its affiliates (“we” or “us”) expressly disclaim any contractual or fiduciary relationship with you on the basis of the content of this publication, and you may not rely thereon for any purpose. You should consult with qualified professionals or specialists before taking, or refraining from, any action on the basis of the content in this publication. The information in this publication does not constitute legal, tax, investment or other professional advice from us.  We make no representations, warranties or guarantees, whether express or implied, that the content in the publication is accurate, complete or up to date, and DISCLAIM ANY IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE