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Exchange Rates 01.06.2020 analysis

The British currency closed last week on the gloomy note. Analysts share the viewpoint that next week market sentiment on GBP will still be dampened by worries over its prospects. Experts say that the first summer month is likely to bring unwelcome developments to the sterling.

Experts point out three factors which are the main culprits of the sterling's weakness: snowballing Brexit-related troubles, the odds of negative interest rates, and a backward decision of the British authorities on lifting lockdown in the domestic economy. However, the major obstacle on the GBP path to success is the UK exit from the EU.

Experts warn that inability of the UK authorities to strike a sensible trade deal with the EU by the end of 2020 will generate massive pressure on the sterling. The looming Brexit is complicated by financial troubles. The EU is obliged to prop up the European countries which have suffered the most from the COVID-19 pandemic. The UK is supposed to share the burden of the joint financial aid. For your reference, recently Germany and France proposed the creation of the recovery fund worth €500 billion. The UK has to contribute. Such financial obligations of the UK pose extra risks to the British currency. No wonder, the UK is against this contribution, unwilling to back other EU countries.

There is a reason behind such rejection. In fact, the UK economy is recovering too slowly following the shutdown. Experts say that the authorities are to blame for late counter-measures in the beginning of the pandemic and for the late introduction of restrictive measures. The UK government failed to figure out the actual threat and imposed lockdown when the death toll and the number of the coronavirus cases had been soaring. After lockdown has been actually lifted, the economy is facing a challenge on the way back to normal. The thing is that the COVID-19 pandemic broke out when the domestic economy had been losing steam. So, the coronavirus worsened the lackluster economy.

Among the above-said three culprits, the probability of the negative interest rates is the main cause to put pressure on GBP. Analysts say the odds are high despite negative consequences of this decision. Obviously, the UK is very vulnerable to the pandemic fallout as its economy is highly dependent on consumption activity. Besides, experts highlight the bubble in the British commercial property market that also poses a risk to the financial stability. The government thinks that such a bubble required urgent measures. One of them could be negative interest rates.

Notably, global financial markets have already priced in the scenario of negative interest rates in the UK. Experts reckon that the key interest rate will be slashed below zero in May 2021. Earlier, the UK central bank used to take the opposite approach considering negative interest rates a bad idea. However, now the Bank of England advocates for negative interest rates. Most experts share the viewpoint that negative rates are sure to deliver a blow to GBP due to a deficit in the UK current account.

At present, the British pound lacks equilibrium against the US dollar. HSBC analysts predict that GBP/USD will be trading at 1.2000 by late 2020. Earlier, they suggested that GBP/USD would trade as low as 1.1000 amid the lack of the post-Brexit trade deal and a turbulent transitional period. In case this prediction comes true, the sterling will lose nearly 20-25% of its fair value against the greenback in the long term. On June 1, GBP/USD was trading in the range of 1.2388 to 1.2389 heading for higher levels.

To sum up, the three culprits, including Brexit headwinds, the prospects of negative interest rates, and the procrastination in lifting the lockdown, will hardly allow the sterling to advance both in the short and medium term. Experts single out negative rates as the main danger to the pound sterling. This move would be the final nail in its coffin. At present, the British currency is facing two challenges: turbulence in the domestic economy and hard Brexit without a smooth transitional period. Another Brexit extension is virtually almost zero.

Performed by Larisa Kolesnikova,
Analytical expert
InstaForex Group © 2007-2020
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