Soggy Summer Awaits Pound Sterling as it Falls Behind the Euro and Dollar in the Race to Normality

- British worrying more than any other country
- A soggy summer awaits the Pound
- BoE could knock GBP lower Thursday says Vanda's Patel

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The British Pound will over coming days attempt to recover from recent lows, but any gains will depend on broader investor sentiment and rising fears that the UK is being left behind in the race to normality.

The Pound recovered some recently lost ground at the start of the new week in tandem with stabilising investor sentiment, should global markets continue to recover the 'pro cyclical' Pound could do the same.

"G10 FX markets are starting to show some signs of stabilisation as risk appetite improves, but we think it is still a little early to sound the all-clear," says Ned Rumpeltin, European Head of FX Strategy at TD Securities.

However Sterling's ability to stage a full recovery and test 2021 highs is jeopardised by a dawning realisation the UK's early lead in the vaccination race has all but been squandered with the U.S. and Eurozone now seeing greater levels of 'openness' and mobility, hinting at a greater rebound in foreign economies over coming weeks and months.

Economic 'outperformance' - whereby an economy delivers positive data surprises - is a critical driver of currency markets and the UK's slow exit from Covid-19 restrictions could be contributing to the Pound's soggy performance on global markets.

"The British are worrying more than any other country," Professor Tim Spector, creator of the Zoe Symptom Study app, told the New York Times last week. "We seem to be much more receptive to the doomsday scenarios."

The UK was supposed to exit all lockdown restrictions on June 21, but the government's fear of rising Covid-19 cases prompted a one-month delay, a decision analysts said was contributing to lower valuations in the Pound.

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UK cases are rising in part due to a more transmissible strain of Covid-19, prompting caution by the government on easing restrictions. However, deaths remain flat and there is little evidence that rising cases are translating into rising deaths.

The government's decision, combined with a steady stream of warnings in the media that restrictions could well return before year-end, risks denting consumer and business confidence, a key ingredient to economic growth.

"The deterioration in the Covid-19 situation over the last month, and the four-week postponement of the "Step Four" unlocking, which we think we be delayed again next month, suggest that month-to-month growth in GDP will slow significantly over the summer," says Samuel Tombs, Chief UK Economist at Pantheon Macroeconomics.

Tombs says some near-real-time data already suggest that households have become a little more cautious, coinciding with the pick-up in virus cases.

The delay to opening and some signs that short-term data is deteriorating is potentially already showing up in Sterling exchange rates: the Pound-to-Euro exchange rate reached a multi-week high at 1.1706 last week but has since sunk to 1.1650 and is unlikely to test the medium-term high at 1.18 - reached in early April - in the foreseeable future.

The Pound-to-Dollar exchange rate rallied to 1.4250 on June 01 but has since retreated back to 1.3867 amidst a combination of Sterling softness and a broad-based impulse of U.S. Dollar buying.

For a foreign exchange market that has become increasingly sensitive to economic data, disappointing data releases in the UK are a further risk to Sterling valuations over coming weeks.

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Growth expectations in the UK have been revised higher by economists across the spectrum during the first half of 2021, increases the prospect of downside economic surprises as these optimistic forecasts are dashed.

"A short delay should have modest implications for the medium-growth outlook, although there is some risk of a hit to consumer and business confidence," says Jacob Nell, an economist with Morgan Stanley.

As we note here, the Pound typically underperforms in the summer period, and this will be no exception in 2021 as the UK takes the slow lane out of restrictions.

The delay in easing of restrictions on domestic activity comes as European countries and the U.S. return to normal.

"Despite 62 per cent of the population having had at least one jab of vaccine and 45 per cent being fully vaccinated, the country is falling behind its peers," says Paul Nuki, Global Health Security Editor at the Telegraph.

A consistent foreign exchange market narrative of 2021 has been that the UK's early and rapid vaccine rollout would allow the government to ultimately lift Covid-19 restrictions on a sustainable basis, in turn allowing the economy to return to full capacity before other countries can achieve the same.

But the vaccination rate in the UK has been in decline for three weeks now, even as the government said the country was in a race between vaccines and the newly dominant Delta variant of Covid-19.

Image courtesy of @UKCovid19Stats.

The ONS now offers a weekly snapshot of short-term economic performance in the UK and the most recent figures suggest the rebound in activity from earlier lockdowns is starting to fade somewhat.

The ONS survey utilises weekly card spending data from the Bank of England (CHAPS), and while spending has certainly recovered it has dipped most recently, a development that is perhaps consistent with a cooling in sentiment owing to rising Covid cases:

Image courtesy of Morgan Stanley.

"On most measures of mobility, the UK is indeed trailing its peers. In retail and recreation, the UK remains 13.5 per cent below pre-pandemic levels "and that number is getting worse by the day," says Nuki.

The stringency rating (showing how many restrictions are in place) for the UK currently stands at 63, compared to 55, 52, and 47 in Sweden, France and the U.S. respectively.

For the Pound, a deterioration in sentiment regarding the country's Covid status, slow vaccinations, delayed reopening and pedestrian short-term data risks eliciting a cautious tone from the Bank of England who deliver their mid-year policy update on Thursday.

"The UK isn't quite out of the woods yet when it comes to Covid. BoE playing it cautious this week risks knocking GBP lower," says Viraj Patel, Global Macro Strategist at Vanda Research.

"The data has been strong, but uncertainty has risen, given the rise in COVID-19 cases and tensions with the EU," says Morgan Stanley's Nell ahead of the BoE event.

The UK's largest economic rivals are meanwhile steaming ahead with a return to normality: last week New York's Governor Andrew Cuomo announced the end of all Covid restrictions after the city reached a 70% vaccinations goal.

France last week eased numerous restrictions with authorities saying it’s no longer always mandatory to wear masks outdoors and halting an 8-month nightly coronavirus curfew this weekend.

Travel is an important driver of economic growth for interconnected economies, such as the UK.

But restrictions on travel remain tight in the UK with a significant proportion of the world residing on the country's 'red list' and the rest being placed on an 'amber list' that discourages travel. A negligible - and economically insignificant - number of countries reside on a 'green list'.

It was reported Monday that EU air traffic is at its highest compared with pre-Covid levels since March last year, when the continent’s lockdowns really began to affect demand.

On Sunday it rose just above 50% of 2019 levels based on a seven-day moving average, data from Eurocontrol show.

Germany will meanwhile this week welcome travellers from outside the European Union who have been completely vaccinated.

"Visiting trips and tourism thus become possible again for vaccinated people," said Germany's interior ministry.

Germany added all of Greece, France and Switzerland, and most of mainland Spain to its Green List on Friday, where they join Italy and Portugal.

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Meanwhile in Berlin, nightclubs reopened on Friday allowing groups of up to 250 to congregate on outdoor dance floors.

From Monday, bars in Madrid will open until three in the morning, also with outdoor dancing allowed.

The U.S. has reopened international travel to much of the Americas, Caribbean and now Europe.

The UK's travel policy meanwhile came under intense scrutiny at the start of the week after data showed fewer than one in 200 travellers from amber list countries are testing positive on their return.

Analysis of the latest figures from NHS Test and Trace, which are updated every three weeks, also shows no "variants of concern" were detected from any passenger returning from one of the 167 countries on the amber list.

Conservative MPs and travel experts said the data revealed that the border restrictions were too strict as they increased pressure on ministers to significantly expand the green list when they meet on Thursday.

The UK will now only likely be in a position to catch up with its European neighbours and the U.S. from July 19 at the earliest.

By then it is expected that 70% of adults will have had both doses of the vaccine, a target that must be reached to allow for 'safe' reopening according to Dr Susan Hopkins, strategic adviser for coronavirus at Public Health England.

Until then the prospect of disappointing short-term data is likely to grow, ensuring the Pound's rallies are capped and bouts of weakness become enduring.