The Pound Sterling's Downside Momentum Forecast to Ease on UK Budget 2017

Modified: Thursday, 09 March 2017 11:37 GMT

Pound to Euro exchange rate today (9-3-17): 1.1542
Pound to Dollar exchange rate today: 1.2159

The British Pound rose by 0.3% against the Dollar and the Euro as the UK's 2017 budget was delivered by Chancellor Hammond.

Investors took confidence from the Chancellor’s upbeat tone and bullish revisions to growth forecasts for the current year.

The movements in Pound Sterling suggest traders were taking something of a 'sell the rumour, buy the fact' approach to the event as we received confirmation that the UK economy is likely to keep going at a pace that renders the UK currency deeply undervalued on a long-term basis.

The Chancellor uses forecasts supplied by the Office for Budgetary Responsibility (OBR) in his budget, and the OBS upgraded growth forecasts for 2017 to 2.0% from 1.4% in November, although it downgraded growth for the following year (and ’19 and ’20) due to the expected impact of the Brexit divorce.

The Chancellor announced that government borrowing had fallen by 16.0bn in 2017 due to unexpected economic resilience in the aftermath of the referendum.

Now it appears that despite initially dropping the Cameron administration’s goal of closing the budget deficit by 2020, Hammond has picked up the torch again but with a somewhat more flexible approach to balancing the books so that future generations are not left with a tax hangover.

The other main item in the budget was the increase in national insurance contributions by the self-employed from the current 9% to 11% by 2019.

Analysts were cautious about Sterling’s albeit modest gains following the budget:

“It seems that the improved economic outlook from the OBR provided traders with a small injection of confidence. Sterling rallied 0.3% against both the Euro and the Dollar during the budget presentation, with rates now largely unchanged from market open," says Alexandra Russell-Oliver, Currency Markets Analyst at Caxton FX..

But Rusell-Oliver cautions we are still a long way off pre-Referendum levels, and uncertainty around the Brexit bill and triggering of Article 50 will likely see further pressure on the Pound.

"This could push Sterling to again test its January lows - 1.1977 against the Dollar and 1.1290 against the Euro,” says Russell-Oliver.

Analyst James Rossiter at TD Securities was quite dismissive of the Budget from a currency perspective, saying, “as broadly expected, Chancellor Philip Hammond presented a relatively low-key budget today that upgraded UK economic forecasts, revised up revenue projections in the short-term, and largely left fiscal policy unchanged."

On the back of the lower deficit, issuance in 2017-18 is expected to be £115.1bn, below last year’s £146.5 figure.

“Many of the tricky decisions will be made in the Autumn Budget, with numerous consultations, white papers, and green papers announced today due to report back by summer,” says Rossiter.

For the Pound, Near-Term Outlook is not 'Highly Negative'

Fundamentally, the British Pound has had a punishing few months with the uncertainty of the Brexit negotiations causing capital flows away from the Pound.

The past week has seen a rapid descent for the GBP/USD exchange rate as sentiment has flowed strongly into the Greenback as speculation of an impending FOMC rate hike has continued to mount.

Subsequently, we have seen price action drop from around the 1.2600 handle to its current level at 1.2160.

"However, it remains to be seen how much further the embattled pair will go given that we are now nearing the depths of the October 2016 low," says Steven Knight, Blackwell Global Investments Limited.

Knight says the near term outlook is not highly negative despite ongoing rhetoric around the impact of an exit from the EU. Inflationary pressures are starting to awaken in the UK and GDP is proving to be relatively robust in light of the ongoing uncertainty.

"Subsequently, there are plenty of fundamental factors to suggest that the currency pair’s current malaise is a temporary decline," says Knight.

However, analyst Karen Jones at Commerzbank in London argues for GBP/USD, the near-term outlook remains negative:

"Sterling’s sell off has reached the 78..6% retracement at 1.2142, coupled with a 13 count on the 240 minute chart, we would allow for a minor rebound ahead of further losses to 1.1988/80 recent low and the bottom of the 5 month range at 1.1927. The market will stay directly offered below the 1.2378/1.2407, the 55 and 20 day moving averages."

Against the Euro, the outlook now hinges on the tone that is likely to come out of the ECB at their March meeting due at mid-day Thursday, March 9.

"Watch the ECB meeting for changes in language, with a number of voices calling for a change to the ECB’s forward guidance. An updated set of staff projections, which are likely to see an upward revision to inflation estimates, will add weight to those calls. Our economists, however, think the ECB will stick to its guns, looking through the energy-driven rise in inflation," says Sue Trinh, an anlyst with RBC Capital Markets in Hong Kong.

Any hint that the ECB is to ease back on their Asset Purchase programme is likely to be positive for the Euro and will add further downside pressure on GBP/EUR.

A negative, cautious tone, could meanwhile trigger some Euro selling, in which case we look for GBP/EUR to stabilise further.

Save