Johnson's Confidence Vote is No Stress for Pound Sterling

Above: File image of Sir Graham Brady. Image © Pound Sterling Live.

The British Pound is trading firmer at the start of the new week that is likely to see fresh political intrigue in Westminster.

Conservative Party MPs will hold a confidence vote in Prime Minister Boris Johnson between 6 and 8PM Monday after the required number of letters of no confidence submitted to Sir Graham Brady of the 1922 Committee reached a key threshold.

The results are likely by 9PM.

The developments mean Johnson must now win a vote of confidence amongst his Conservative MPs if he is to avoid being replaced as leader of the party; at least 180 (just over 50%) of Conservative MPs must vote in support of the PM for him to remain leader.

Yet despite the news the Pound is trading firmer against the Euro and Dollar, confirming political intrigue is no headwind to the currency.

The Pound to Euro exchange rate is trading a third of a percent higher at 1.1679, the Pound to Dollar exchange rate is trading 0.40% higher at 1.2540.

Above: GBP/EUR at daily intervals, showing Sterling has been under pressure since April. Set your FX rate alert here.

Samuel Tombs, Chief UK Economist at Pantheon Macroeconomics, says the Pound could in fact be benefiting from news of a confidence vote.

"At the margin, markets have responded favourably to the news of the contest, with sterling appreciating to $1.257, from $1.250 earlier this morning. This appears to reflect the general principle that markets favour Conservative governments, and the chances of the Tories winning the next election likely will be higher under a new leader," he says in a note to clients.

But the Pound's advance could also suggest broader issues are in charge, particularly the improved investor confidence which is reflected in rising global stock markets.

"Safe money is on Boris Johnson surviving for a little while longer. The whole scene is likely to play second fiddle to the more pressing market matters of sticky inflation and upcoming central bank meetings," says Shane O’Neill, Head of Interest Rate Trading at Validus Risk Management.

The Pound is a pro-cyclical and pro-risk currency that tends to advance against the Dollar and Euro when market sentiment is positive, as it currently is.

The reasons for the benign interest in UK politics by currency markets is understandable: replacing Johnson is unlikely to alter the UK's economic trajectory in a major way.

This differs to the impact on Sterling caused by the political ructions that characterised Brexit negotiations and the removal of Prime Minister Theresa May.

Back then the changing of Prime Minister had significant implications for the type of Brexit deal that might have been reached, therefore it was more relevant to FX markets.

For Sterling, global market sentiment, domestic economic data and the central bank policy outlook will remain firmly in the driving seat.

"Boris Johnson 'no confidence' vote should be a non-event for GBP markets. Only way it becomes an issue is if the risks of an early general election pick up. This would put $GBP on a slippery slope to 1.20. But slim chance any Tory leader calls a snap election given polling," says Viraj Patel, FX & Global Macro Strategist at Vanda Research.

Tombs says there are some potential longer term considerations to consider from an economic and currency perspective.

"The result of the vote won’t have a large bearing on the near-term economic outlook. Thankfully, Mr. Sunak announced a comprehensive package of measures to bolster households’ incomes two weeks ago, so an extended Conservative party leadership contest would not starve the economy of the support it needs," he says.

But he warns the chances of a general election occurring before the end of this parliamentary term—May 2024—would rise if Johnson loses the vote, as his successor might seek to capitalise on their usual honeymoon period with voters.

"This might prompt some firms to pause capex projects and might weigh on sterling, due to the other possible governments that would come into play, including those that would lead to another Scottish independence referendum," says Tombs.

A new Conservative PM might also seek to manage the public finances more cautiously than Johnson, who Tombs says has pushed for higher infrastructure spending.

"But a successor also probably would take a more constructive attitude towards E.U. relations, supporting investment and exports, and might seriously engage with the structural reforms needed to support the economy’s trend growth rate. A change in leader, therefore, might have some positive medium-term consequences for the economy, though the initial rise in political instability would be modestly unhelpful in the near term," he adds.