The British pound reached its highest level against the euro (€1.1880) since August 2022 amid ongoing political uncertainties across Europe. Since the EU referendum in 2016, GBP/EUR has traded above €1.18 for only 8% of the time over the past eight years. Although political risk will continue to influence the pair in the short term, central bank dynamics will become the primary driver over the long term, leaving the pound vulnerable.
Financial markets are currently pricing in just a 5% probability of a rate cut by next week and only a 40% chance for August’s meeting. However, we believe the market is underestimating the risk of a summer rate cut, given the data from Tuesday showing that UK unemployment unexpectedly rose to a 2½-year high, and the vacancy-to-unemployment ratio has returned to pre-Covid levels. The slowdown in UK private sector pay growth will be welcomed by the BoE, but the trajectory of services inflation will be more crucial in determining the timing and extent of policy easing this year. That data is expected next week. Any signs of cooling UK inflation and an impending summer rate cut could cause GBP/EUR to fall below €1.18 again.
This morning, UK GDP met expectations as the British economy stagnated in April. The 3-month average was 0.7%, despite construction output declining more than anticipated (-3.3% vs. -1.8%). Industrial and manufacturing production also fell more than economists had predicted.
