The pound has set a new post-Brexit referendum low against the euro and is tantalizingly close to doing the same against the dollar. This slide says more about the increasing likelihood of a no-deal departure than the state of the UK economy.
Figures released on Friday showed gross domestic product shrank by 0.2% in the second quarter, the first negative reading since 2012.
Much of this is attributable to companies unwinding their stockpiles of inventory ahead of the initial March deadline for leaving the European Union. That date has now slipped to Oct. 31.
In fact, the UK economy is holding up pretty well, with both government and household spending remaining robust. The third quarter should see a bounce back of 0.3%, according to Bloomberg Economics's Dan Hanson. His forecasts for growth in 2019 are unchanged.
Sterling is at the lowest level in a decade versus the euro. And the lowest in over two years to the dollar.
Sterling’s weakness has been far more closely linked to the prospects of a no-deal Brexit. Boris Johnson's administration has ramped up both its rhetoric and preparations for that outcome – but its majority in parliament is looking increasing doubtful and an early election thus more likely.
That has prompted currency traders to raise their expectations that the UK and EU will fail to reach a deal in time. Analysts at BNP Paribas SA now put the probability at 50%, up from 40%.
Another factor in all this is that Sajid Javid, the new Chancellor of the Exchequer, announced a shorter, sharper review of government spending on Friday, rather than the typical three-year review. This suggests election planning is in full swing. Add in Johnson’s big spending promises on health, and it is highly likely that more gilts will have to be issued. Such fiscal relaxation is a negative for sterling, even if the gilt market remains impervious for now.
There is simply very little to support the pound regardless of how undervalued it may be. With previous lows breached, it is hard not to expect further weakness until the political landscape becomes clearer.
Bloomberg
