GBP/EUR Slumps: GBP Forecast to Soften Further as Buyers Flock Back to the Shared Currency

The British pound (GBP) continues to struggle against the euro on global exchange rate markets with near-term forecasts pointing to further near-term softness.

Indeed, even the longer-term picture in GBP/EUR is starting to deteriorate, however at this stage the GBP ultimately remains favoured heading into 2015.

News that the UK will likely be the first country to experiencing rising rates has put a rocket under sterling through the first half of 2014, however, there are rising doubts as to when the rate rise will actually happen, particularly as UK inflation falls lower.

"Sentiment towards GBP remains relatively soft, with expectations for the first UK rate hike continuing to be pushed back. The OIS curve suggests this is now priced in for around July 2015," say Lloyds Bank Research in a note to clients.

The pound and euro rates today:

The pound to euro exchange rate (GBP/EUR) is 0.03 pct higher on a day-to-day basis at 1.2568.
The euro to pound exchange rate (EUR/GBP) is therefore at 0.7958.

If you are holding out for better rates don't risk it - ensure you have the correct protective and buy orders in place, find out more.

Beware: The above are spot market quotes, your bank will affix a discretionary spread to the figures. Note that an independent FX provider is able to provide up to 5% more currency in some cases by getting closer to the market, learn more.

Below are three scenarios that will be at play when forecasting the direction of the British pound vs the euro:

The Dollar is Slumping: Pro-EUR

The US dollar is being sold off on Wednesday as markets realise the US economy could be starting to cool.

A raft of eye-opening data has been released which has seen traders rotate out of the over-bought euro and into the over-sold euro. The demand for EUR has seen the GBP lose out in sympathy.

Reasons for the USD decline include NY Empire State Manufacturing Index (Sep) which came in at 6.17, well below expectations for 20.50.

PPI inflation data came in at 1.6 pct month-on-month in September, analysts had expected 1.8 pct. And Retail Sales ex Autos (MoM) (Sep) came in at -0.2 pct - analysts had expected growth of 0.3 pct.

This is worrying - it appears the US economy has started to slow down. While this has been expected to be happening in the UK economy it was expected that the US would steam ahead.

We see this as being a sudden, and rude, interuption to the USD bull run.

Wage Data is Strong: Pro-GBP

UK unemployment rate declined to 6% - the lowest level since the credit crisis of 2008. However, the headline data masked the fact that the claimant count declined only to -18K from -35K eyed indicating a slowdown in the reduction of jobless rolls.

On the other hand wage growth perked up a bit with average wages ex bonus rising 0.9% from 0.8% the 3 months prior indicating that the pickup in economic activity is slowly but surely starting to translate into better wage gains.

Inflation Falls, No Interest Rate Soon: GBP Negative

UK inflation, year-on-year for September, slumped to 1.2% it was reported on Tuesday, analysts had expected a reading of 1.4%. This is good news for UK consumers but it does alter dynamics at the BoE where decision makers are no longer under pressure to implement pro-GBP rate rises.

Sterling was agressively sold as there is now no immediate need for the Bank of England to raise rates if inflation is falling.

As rate expectations are pushed back so the pound falls in tandem.

Interest Rate Rises Around the Corner: Pro Pound

Despite the fall in inflation there are those that continue to take a more circumspect view. Indeed, the Bank will itself be looking at longer-term inflation expectations.

David Lamb, senior dealer at the foreign exchange specialists FEXCO, is one of them and he reckons the time for an interest rate hike draws closer.

This is certainly a bullish stance for the pound:

"The MPC's dissenting hawks continue to be drowned out by the dovish majority - but for how much longer?

"After months of marching in tandem, ratesetters in London and the US are getting closer to breaking their monetary policy lockstep.

"Yesterday the Fed's latest minutes revealed just how far the US is from hiking interest rates. While noone is surprised by today's Bank of England's rate hold, the case for a rise in UK rates is picking up steam.

"With the IMF predicting that the UK will grow faster than any other G7 economy this year, the MPC's hawks will not remain in the minority forever. While any rise is likely to be modest and unlikely to come until the first quarter of 2015, the prospect is becoming ever more real - and that is steadily strengthening Sterling.

"The Pound continues its robust run against the wallowing Euro, and the suggestion that UK and US interest rates could finally move out of sync is nudging it up against the Dollar too."

Eurozone Tilts Towards Recession: Pro Pound

As hinted to above, the Eurozone finds itself in a poor spot at the present time.

Olivier Blanchard, Economic Counsellor at the IMF, in the latest quarterly assessment, notes:

"Among advanced economies, the United States and the United Kingdom in particular are leaving the crisis behind and achieving decent growth—though even for those two countries, potential growth is now lower than in the early 2000s."

However, with regards to the Eurozone Blanchard says:

"Growth nearly stalled earlier this year in the euro area, even in the core. Although this partly reflects temporary factors, the recovery has been slowed by the crisis legacies, primarily in the south, and by low potential growth nearly everywhere."

The powerhouse of the Eurozone, Germany, is forecast to grow 1.4% in 2014 and 1.5% in 2015.

For pound / euro rate watchers we must compare to projections of the United Kingdom which are 3.2% this year and 2.7% next year.

Meanwhile France is expected to only grow 1% in 2015 and Spain can expect growth of 1.7%.

This economic divergence will keep the European Central Bank in an accommodative mood which will ultimately see more euro's pumped into the economy.

Compare this to the increasingly restrictive Bank of England and we can understand why the pound is favoured over the euro.

What George Osborne Said: Pro Euro

There is however another factor to watch.

A stumbling Eurozone is not good news for the United Kingdom's economy - Europe is the UK's closest trading partner after all.

As such the words spoken by Chancellor George Osborne in an interview on Thursday must be heeded with caution by the sterling bulls.

Osborne told the BBC:

"The eurozone risks slipping back into crisis, and Britain cannot be immune from that - it's already having an impact on our manufacturing and exports."

You can bet your bottom pound that the team at the Bank of England share this sentiment.

Those doves mentioned by Lamb in his earlier comment will no doubt use this viewpoint as ammunition.

Add to this signs that the London housing market is cooling and one gets the sense that there is in fact little pressure at the present time for the Bank of England to pull the trigger on higher rates.

Indeed, we at Pound Sterling Live would take a cautions approach when it comes to considering the outlook for the pound against the euro and be tempted to say a break above 1.28 in the mid-term is unlikely at this stage.

Look for support at 1.24.

The UK run of jobs data due today closes off the real wage argument for another month. Yesterday’s fall in inflation can only be seen as a victory if wages perk up to lessen the gap between the two. There is little to suggest that we will see a negative surprise from the jobs market today; if there has been one indicator that we have been able to hang our hat on for a stronger pound, it has been the jobs report. ILO unemployment is expected to fall to 6.1% from 6.2% in July. Wages are expected to have risen by 0.7% on the year.