Since Theresa May set out plans to invoke Article 50 at the end of March, we have witnessed a significant weakening of the pound against both the dollar and the euro. The pound’s weakness is further exacerbated by the fact we have yet to see any significant weakness in the Eurozone economy or trade.
France and Germany look likely to maintain their position for a ‘hard Brexit’, something Conservative Government looks keen to back, meaning there is a further risk of the pound weakening as access to the single market and passporting rights of UK financial services firms are compromised. This is key since UK financial services – having an export surplus with the EU – are keeping a lid on UK’s trade deficit. Absent the willingness of foreign investors to fund the trade deficit, the pressure point is on the pound to correct UK’s growing macro imbalance of having to rely ever more on the grace of foreign investors to fund the spending needs of the UK economy. If the UK is set on making few concessions then this will likely keep the pound weak and help drive increased volatility in the pound.
Even once formal negotiations start between the EU and the UK, no-one knows what trade agreements will be in place. Trade deals are now done more often than not at a bloc level, meaning the UK could be left with little leverage when forming new partnerships. As we have seen in the past year, currency markets hate this sort of uncertainty and the probability of the UK benefitting appears to be low. Consequently, we would expect unpredictability to continue, both up until Article 50 is triggered and over the long-term future where negotiations have the potential to drag on.
Viktor Nossek – Director of Research – WisdomTree