GBP dented by deflation – but still has fundamental factors going for it
The last few days have seen GBP in a tug of war pulled up by news of the $104 billion takeover of UK-based brewer SAB Miller by Anheuser-Bush InBev only to be dented by news that the UK has sunk into deflation again therefore dimming the prospect of an interest rate rise.
Though the Bank of England is unlikely to raise interest rates until well into 2016 at the earliest – the deflation story is potentially being over-played. On the other side of the exchange rate, prospects of an imminent US interest rate hike have faded and the Eurozone and Japan are still in easing mode.
Given the hammering commodity markets have taken and the generally slowing global economic growth deflationary pressures are likely to remain. This is not just the case for the UK, but everywhere else meaning there’s not much motivation to tighten monetary policy in other countries.
UK inflation has been falling since September 2011 when it hit 5.2% and reached -0.1% in April this year for the first time in decades. It has been weak ever since then and was 0.0% in August followed by -0.1% in September.
Low inflation / mild deflation may actually be doing some good for the UK. That’s because UK wages may have started to pick-up at last – they rose 2.9% in August. It remains to be seen whether this momentum will be maintained. If nothing else the government’s move to raise the minimum wage should help and the unemployment rate is standing at a relatively low 5.5%.
This will put more money into the pockets of consumers and given the importance of domestic consumption to the UK economy, that’s a big plus. Also, the UK is enjoying a robust property market, which helps support consumer confidence.
Another piece of good news for GBP is that the current account deficit has narrowed sharply to 3.6% in Q2 from 5.2% in Q1 very much helped by falls in commodity prices and a relatively firm GBP. That means international trade is acting as less of a drag on GBP and the economy.
The generally healthy state of the UK economy, it grew 2.4% in Q2, should continue to attract foreign investment and this is supportive for GBP.
However, the one dark cloud on the horizon is the global economy.
The UK has a very open economy and is potentially vulnerable if conditions abroad start to deteriorate sharply. Some recent business sentiment readings have shown slipping confidence (UK PMI was 53.3% in Sept versus 55.6% in August). If the global slowdown turns out to be a relatively temporary event – then the outlook for GBP versus most of the majors should be positive.
TECHNICAL ANALYSIS: EUR/GBP – Reaching key breakout point
As is often the case, the technicals are telling different story to the fundamentals in terms of the UK versus the Eurozone. The former’s economy might be in better shape than the latter, but there is the case of dissipating probabilities of a UK interest rate rise to take into account.
EUR/GBP has been on an uptrend since hitting a low of 0.6936 in July 2015 as confirmed by the 20-day moving average and parabolic SAR. In fact following some mild consolidation the EUR looks poised to break quite a bit higher with pressure building above the 0.7400 area.
It’s key for the pair to sweep away resistance at 0.7493 hit this month and is a new high on the 0.7483 seen in May 2015. From there it’s a case of building support above 0.7500 with 0.7568 being the next important target and 0.7620-30 after that.
As always the technicals are vulnerable to events, such as an attempt by the European Central Bank to talk down the single currency. After all the EUR hasn’t just been making significant gains against GBP since July, but more importantly for policy makers USD as well. In the event of a weaker EUR/GBP look for support at around 0.7400, 0.7330.