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The politics of currency

02 May 2017


In association with World First

We just cannot get away from politics at the moment. The Dutch elections passed without much of a market spasm but French elections, a UK election shortly and 2 years of Brexit negotiations which started two months ago all show that the road for businesses trading internationally is pockmarked with political risk.

While the newspapers will be full of election chatter and will likely be used as a rerunning of the Brexit campaign, we cannot foresee that the currency markets will react in the same way as they did with Brexit. Labour will struggle to annunciate a Brexit position; the Lib Dems will win the votes of ardent ‘Remainers’ and the SNP will still talk about independence. In short we see nothing really changing between now and 8 June 2017.

For us, the major issue for the pound remains the Brexit negotiations. Answers and clarity are at a premium in all negotiations and, unfortunately, international businesses are going to have to wait their turn for much of either, especially as we believe that talks between the EU and the UK will not actually begin in earnest until mid-June in order to bypass any risk from the upcoming French elections.

Needless to say EURGBP is the currency pair that is the most exposed to the ups and downs of the Brexit negotiations and fallout. As individual currencies they are expected to be very 'noisy' i.e. they are buffeted by rumour, reports and unsubstantiated news flow on an almost daily basis.

With predictions suggesting a 'hard' Brexit and win for the centrist French Presidential candidate Emmanuel Macron we believe that the near term risk is for the EURGBP currency pair to move lower.

While Brexit and Trump both caught the market on the hop last year, movements in markets measuring the extent of currency market reaction suggest that the polls have a better handle on the European political risk this year compared to last year’s political turmoil.

Marine Le Pen and the leader of the Dutch, far right PVV party Geert Wilders, have been members of the European political class for a number of years unlike Trump and have campaigned on issues familiar to the electorate unlike what was seen in the lead up to Brexit. In other words, it is not a surprise that she is popular but it remains that it would be a surprise if she won.

However, once the French Presidential election is out of the way, as long as Marine Le Pen is not victorious, we think that we could see some positivity for the euro and weakness in the pound.

As for the pound longer term we think that investors are caught between the temptation of getting behind an undervalued currency and the unknown of Brexit.

Is sterling undervalued? Absolutely but we all know that doesn't mean it can't get even weaker. While the pound has only been weaker on a trade-weighted basis twice since the end of Bretton Woods, the nature of Brexit and its existential risk to the UK’s position in the world and its trading relationships across the globe arguably make for a more complicated policy cocktail than anything investors have seen before in modern times.

There is a heightened chance of an errant statement or misconstrued rumour eliminating value from sterling gains that have been built on a run of recent good data.

Businesses dealing internationally should remember that while the domestic politics may be in support for the pound, the longer term risks of Brexit and the negotiations therein will remain. 

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The views expressed in blogs such as the above are those of the author and do not represent the views of the Institute of Directors.

Image of Jeremy Cook, Chief Economist at World First

Jeremy Cook

Jeremy is one of the UK’s leading voices on foreign exchange, and you’ll regularly find him on television and across the national media giving his unique, thoughtful insight. He has made regular appearances on BBC News, BBC Radio 5 Live and Newsnight, as well as in leading blogs and newspapers.

Having started out at HSBC in the City of London, Jeremy decided on a move into currency after a brief stint in private equity advice. He joined World First in 2007 as a Corporate Dealer when the Corporate Desk at World First consisted of only five people. He took on the role as World First's Chief Economist in 2010.

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