Looking Ahead for the Pound
With Brexit talks out of the way, markets can focus on the consequences of this historic change
With Trump’s turmoil over, Biden’s tight work with the Fed is key to dollar action.
Coronavirus vaccination should finish the crisis by year-end, yet a bumpy road awaits.
The economic calendar is set for a comeback in influencing cable.
A traumatic 2020? Not for those cable traders looking for volatility. GBP/USD hit historic lows in response to the coronavirus crisis, changed its reaction function to printing money, and provided endless Brexit-related movements.
With Trump, Brexit and eventually coronavirus out of the door – will things calm down 2021? The fading out of these three factors will likely lead to a calendar comeback – serving as the judge of the vaccine’s impact, Brexit, and government policies on both sides of the Atlantic.
Coronavirus hits hard and high
One dark weekend in northern Italy in late February was when markets fully came to grips with a virus that previously only put Wuhan on the map. Coronavirus triggered a downfall that pounded the pound, sending it to 35-year lows against the safe-haven dollar.
Britain seemed to be caught off-guard. Prime Minister Boris Johnson hesitated before following other countries into lockdown and later came down with COVID-19, including a spell in intensive care. His recovery in April, at a time of massive fiscal and monetary support on both sides of the Atlantic, marked the grand comeback.Britain was more prepared for the winter wave of the virus. Despite Johnson’s second lockdown hesitance, investors seemed to worry more about London’s status and Brexit (see later) than the new economic damage.
The UK was more successful with the covid vaccine announcement – and its dual positive effect on GBP/USD. The government secured agreements with a wide variety of pharma firms, including its homegrown AstraZeneca. The first Western-world vaccinations also began in Britain after a quick regulatory approval of the Pfizer/BioNTech jab, boosting the pound – while every progress on immunization weighed on the safe-haven dollar.
Printing pounds ≠ printing dollars
The peak of the crisis caught the BoE transitioning from Mark Carney to Governor Andrew Bailey. The new chief slashed interest rates to 0.10% – the lowest in the “Old Lady” set in its 300+ year history on his fourth day at the job.
More importantly, the BOE more than doubled its bond-buying scheme in three moves, with the last one coming despite the parallel vaccine announcement. The pre-pandemic logic that creating money out of thin air devalues the currency vanished and made way for a new narrative – monetary funding would help the government support the economy in times of trouble. The announcements were coordinated with the Treasury and convinced investors of an efficient government keen to keep the economic engines running.
On the other side of the pond, the old logic prevailed – printing greenbacks devalued the dollar, as it also reduced the flight to safety. The Federal Reserve boosted its balance sheet by some $3 trillion and at a rapid clip.x
Austerity tossed away
While British hospitals lacked Personal Protective Equipment and the government’s U-turns on lockdowns made it a laughing stock, the economic response was applauded by most.
Chancellor of the Exchequer Rishi Sunak delivered rapid support to businesses and the successful furlough scheme, which paid those unable to work a large chunk of their salaries – keeping them attached to their workplace and depressing the unemployment rate. This Conservative government ditched austerity and markets cheered.
Capitol Hill also delivered at first, launching the generous, multi-trillion CARES act, which provided a federal top-up to unemployment benefits and support to small businesses. Later in the year, Republicans and Democrats failed to reach an agreement on additional aid.
Both parties probably calculated that ceding ground to the other party would be bad politics in an election year, yet there were also critical differences, and the US economy recovered. While the dollar moved in response to stimulus news, the lack of a new accord did not materially halt the dollar’s decline.
US elections: Changing narratives
The US Presidential Elections provided powerful drama – such as the death of Supreme Court’s Justice Ruth Bader-Ginsburg and President Donald Trump’s coronavirus infection – but not as much market action.
Nevertheless, similar to the pound’s positive reaction to money printing, more of it was a novelty, so were changing narratives around the long campaign, which serve as a lesson moving forward.
Investors initially feared that now-President-elect Joe Biden would enact sweeping market-unfriendly reforms with a clean Democratic sweep – a “blue wave” and seemed to prefer a split government, whichever candidate won. Later in the campaign, the greatest fear became a contested election that would put the US in political limbo. Investors learned to love the “wave” – which would guarantee more stimulus.
Biden eventually won a decisive 306:232 electoral college, enough to calm fears of a bitter court battle – Trump tried, but was defeated in dozens of legal cases. However, Democrats have yet to flip the Senate. While the fate of the upper chamber and large stimulus now hinges on special elections in January, the prospects of a divided government suddenly looked more appealing. The safe-haven dollar has been on the decline since the vote. While vaccines’ developments did the heavy lifting for markets and pushed the dollar lower, politics remained on the sidelines – they were insufficient to alter the optimism the pandemic was nearing the end.
GBP/USD 2021 Forecast: Is the only way up?
After incredible uncertainty, one anchor of stability is that time cannot be stopped – 2020 will be over, and 2021 will see three significant endings: Brexit, Trump and the virus.
Brexit: Images first, trade data later
The Brexit transition period expires strictly at year-end, but the consequences will take time to be known. Like in 2020, Brexit-related developments will likely dominate the headlines at first – especially as images of long queues of lorries in Dover take over the news cycle.
It is unclear if both sides will sign a trade deal, but this is the first time Britain is practically out of the EU – during the transition period there were virtually no changes in bilateral relations. Moreover, Johnson opted already in 2019 to a relatively hard exit. With an agreement, the Office of Budget Responsibility assumes a 4% hit to GDP and an extra 2% without an accord.
Traffic jams will likely be sorted out relatively shortly, and the media is set to move on from stories about companies facing bureaucratic hurdles to the ongoing coronavirus crisis. It would also be hard to disengage the Brexit damage from the blow inflicted by a potential post-Christmas wave of the virus.
After over four years that Brexit headlines had a substantial impact on the pound, traders may feel that the topic is entirely over after a few weeks. Following long-suffering and the feeling that Brexit belongs to the past could send sterling higher.
Nevertheless, the first closure of a main 2016 event – the second being Trump’s victory – is set to continue impacting the economy, but its influence will probably move to economic data rather than via the latest comments from an unnamed EU official. Once the world begins emerging from the covid disaster, Britain could find itself at a competitive disadvantage – a potential downward driver for the pound.