It was Christmas Eve when Boris Johnson announced a comprehensive Brexit deal had (finally) been struck with the EU. By January 1 the UK had fully transitioned from the EU and new rules now apply to trading, sharing information and free movement. These include:
As soon as the deal was announced the Pound strengthened on markets, but it wasn’t until a few days later that it put in most of the gains. Against the US Dollar it jumped over 2 cents to £1.37, while against the Euro it regained some earlier losses and rose back to €1.11.
For most of December the Pound really was at the mercy of Brexit developments. Towards the end of the month, when it became clear that a deal would be struck, Sterling really began to appreciate. Now that the deal has been done traders can once again focus on the economic fundamentals of the UK economy as a way of assessing the value of the Pound.
Unfortunately, at present, those economic fundamentals aren’t looking too good. The UK economy shrank by around 11 percent in 2020 – the largest contraction in over 300 years – and economists reckon it’s only going to grow by around 4 percent this year, meaning it will be at least the end of 2022 before it regains its 2019 size.
To make matters worse, that forecast was made before the latest national lockdown was announced. The Centre of Economics and Business Research estimates that every day of lockdown costs the UK economy £390 million in lost GDP, meaning the previous growth forecasts will have to be slashed. Furthermore, the knock-on effect on the jobs market could be severe, and many tens of thousands of jobs have already been lost in the hospitality, travel and retail sectors. A spike in unemployment – which some economists reckon could be as high as 7.5 percent by the summer – would further reduce demand in the economy as people hold back from making purchases.
It’s because of economic news such as this that markets are now looking at the rollout of Covid-19 vaccines as a way of assessing how fast the UK economy can get back on track, and therefore how much the Pound should trade at.
There has been no let-up in the slide of the US dollar over the past month – something that allowed the buoyant Pound to take advantage and rise to $1.37.
One factor that held back the Dollar in December was a political standoff in the US over funding for a coronavirus relief package. The Covid Relief Bill would see every US citizen being handed a cheque for $600. President Trump said he wanted to see that figure expanded to $2,000, saying that $600 was “ridiculously low”. However, he eventually backed down and signed the bill, which caused stock markets to jump higher. Nevertheless, the Dollar continued to slide as markets decided news surrounding the new vaccines was a cause to invest in riskier currencies, rather than ‘safe havens’ like the US Dollar.
By the start of January, the Pound was trading at a rate of $1.37, which is the highest it has been since April 2018.
It wasn’t just the Pound doing well from the Brexit agreement, the Euro also received a boost on markets as a result of the deal. With Euro backers concerned that a ‘no-deal’ Brexit would ultimately be harmful to the single currency, there was a sigh of relief when the deal was signed.
Despite this, there is trouble in the Eurozone as some of its most powerful members – notably Germany and France – entered into national lockdowns. With evidence that the new strain of the virus discovered in the UK was now spreading fast across the European continent, leaders opted once again to limit the movement of people and close non-essential businesses. This will have a damaging effect on the Eurozone’s economic recovery and could hold back the Euro over the coming weeks.
Nevertheless, European Commission President Ursula von der Leyen remained upbeat about the Eurozone’s near-term prospects, saying, “We are starting to turn the page on a difficult year. Vaccination is the lasting way out of the pandemic.”
Unlike for most, 2020 was a very good year for the Australian Dollar which rose by almost 10 percent against its rivals, making it one of the best performing currencies in the world. There were two driving factors behind this performance, namely a strong demand for ‘riskier’ currencies (that give a better return than safer ones) following the initial Covid-19 related lockdowns, and roaring commodity prices spurred on by strong economic growth from China. As Australia ships iron ore and coal to the Asia-Pacific region, this last factor gave the Aussie a big boost.
What’s more, the Australian Dollar was able to take advantage of a weaking greenback, and signs that the Australian economy was bouncing back led to expectations that interest rates might be raised in 2021. All of this saw the Pound tumble from AU$1.82 at the start of December, to AU$1.75 at the start of the new year.
Over the next few weeks, the main driving factor behind exchange rates will be news about vaccine rollouts. Those countries that ‘win the race’ to get the majority of their people vaccinated and get their economies open again will likely see their currencies rise against others. At the same time, there will be a general movement either into or away from safe haven currencies such as the US Dollar depending on the political risk situation around the globe. If current trends play out and the level of perceived risk continues to dimmish, we’ll see the US Dollar weaken further, while currencies such as the Australian Dollar will gain in strength. As for the Pound, a lot depends on the level of economic damage incurred by the latest lockdown, as well as how fast the vaccine is rolled out and whether there are any hitches along the way.
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