Pound-to-Dollar Rate in Danger of Further Losses as "Domestic Political Storm" Brews Over London

© IRStone, Adobe Stock

- GBP heads for weekly loss as Brexit talks appear roadblocked. 

- Domestic political storm threatens further losses for the GBP.

- Ebb and flow of negotiations puts economic data on sidelines.

The Pound has handed back all of its October gains over the Dollar heading into the weekend after the Brexit negotiations appeared to hit another roadblock.

The Brexit negotiations have stalled once again due to ongoing disagreement over how to manage the Northern Irish border if an agreement on the future trade relationship is not reached during an "implementation period" set to run between Brexit day on March 29, 2019 and December 2020. 

Analysts are warning that a domestic political storm is now brewing, which could lead to further turbulence in foreign exchange markets next week that would put fresh pressure on the Pound-to-Dollar rate.

Sterling has fallen 0.8% to 1.3028 against the Dollar, taking the exchange rate back to the level it was at around the beginning of October. It is now down 3.4% for 2018 and 10% since the night of the Brexit referendum in June 2016.  

"A domestic political storm may well be about to hit London," says Derek Halpenny, European head of research at MUFG. "Speculation on Theresa May’s survival may well escalate today going into the weekend and the escalation of political turmoil puts the prospect of a deal being reached with Brussels further into the distance. A break below 1.3000 in GBP/USD looks inevitable now, and of course this scenario reinforces EUR/USD downside risks as well."

Brussels rejected Prime Minister Theresa May's "Chequers plan" for the future relationship as well as her "backstop proposal" at a summit in the Austrian city of Salzburg in September. 

PM May is attempting to keep all of the U.K. inside the EU customs union for a limited period of time after the "implementation period" if a deal on the future relationship cannot be agreed between March 2019 and December 2020. 

Brussels has rejected this idea repeatedly, leading May to propose an extension of the so called implementation period as a solution to the EU's concerns about her "backstop" proposal.

Extending the implementation period would give May enough time to put in place the customs infrastructure required to make her "Chequers" plan work. 

The PM is commited to "Chequers" as a roadmap for the future relationship, asserting repeatedly that it would solve the Irish border problem, but the EU claims it is too complex and that it will undermine the integrity of the bloc.

"The latest move to extend the transition period beyond December 2020 looks to have really destabilised the domestic political landscape. Hard and soft Brexiteers, moderates, the DUP and the SNP have all voiced opposition to the idea of an extension. Theresa May’s cabinet is also angered by a decision being seemingly taken without consent," says Halpenny.

The EU's current Irish border proposal of customs union membership and continued "regulatory alignment" for Northern Ireland would mean either all of the U.K. remaining inside the EU customs union and single market, or a de-facto sea border being installed between the island of Ireland and Great Britain if a deal is not reached on the future relationship.

The latter is something PM May has said "no U.K. Prime Minister could ever agree to". However, the government is widely reported to be offering a series of further concessions to the EU, including customs union membership for all of the U.K. and an extension of the "implementation period", in order to get a "deal" done this year.

"GBP/USD has sold off to its 55 day moving average and support line at 1.2992/1.3001," says Karen Jones, head of technical analysis at Commerzbank. "Dips will find support at 1.3001 a minor uptrend and 1.2924 the October low." 

Officials from both sides of the English Channel had been seeking to agree terms of the U.K.'s withdrawal before Thursday's European Council summit wrapped up, but any deal now looks as if it may not come until some time in November or December.

If an agreement is not reached in time for the European Council to approve it in 2018 then the odds of a so called no deal Brexit will have risen, because the eventual deal must be approved by the council and ratified in all parliaments across the EU before the U.K.'s March 29, 2019 exit date.

"The October European Council meeting – long billed as the moment when a Brexit deal would be done and dusted – has come and gone. And the UK and EU positions look as irreconcilable as ever," says Ruth Gregory, a senior economist at Capital Economics. "We have not changed the assumption that underpins our central forecast that a deal will be secured (and ratified in Parliament) in early 2019. But we put the chances of the UK leaving the EU without a deal in March 2019 at almost 50/50."

Without a deal on the Northern Irish border, the U.K. will be likely to leave the EU in March 2019 and default to trading with it on World Trade Organization terms. There would be no "implementation" period and no agreement on the future relationship.

Most economists say this would be bad to the U.K. economy, in the short term at the very least, although estimates of the exact likely impact vary wildly and are difficult for others to assess simply because such an outcome would be so unprecendented. 

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