Pound to Euro Rate Tipped to Slip to 1.11 in Next Twelve Months

January 21, 2024 - Written by Ben Hughes

STORY LINK Pound to Euro Rate Tipped to Slip to 1.11 in Next Twelve Months

GBP/EUR: Second Thoughts on BoE Policy

SocGen expects that the Pound to Euro (GBP/EUR) exchange rate will weaken to near 1.11 on a 12-month view.

Rabobank, however, expects Euro-Zone economic vulnerability will be crucial with GBP/EUR strengthening to 1.19 over the second half of 2024.

GBP/EUR secured a net gain during the week to trade at 1.1650, but failed to hold 1-month highs just below 1.1690.

UK data releases were mixed during the week with a limited net positive impact.

The headline inflation rate edged higher to 4.0% for December from 3.9% previously and compared with consensus forecasts of a further slight decline to 3.8%.

The core rate also held at 5.1% compared with market expectations of a decline to 4.9%.

The higher-than-expected inflation data triggered a shift in Bank of England (BoE) expectations with markets pricing in four rate cuts by the end of 2024 from five previously.

Markets also backed away from forecasting a May rate cut.

The latest wages data, however, recorded a slowdown in headline wages growth to 6.5% in the year to November from 7.2% previously and compared with consensus forecasts of 6.8%.

The ONS also reported a 3.2% slide in retail sales volumes for December, the sharpest monthly decline since the beginning of 2021.

The wages and retail data triggered fresh uncertainty over BoE policy and increased the risk of underlying stagflation with the UK economy perilously close to recession for the second half of 2023.

HSBC remains concerned over the Pound fundamentals; “Net portfolio flows have also been in negative territory, despite some foreign appetite to buy UK debt instruments. This has left the onus of external financing on highly volatile “other investment” flows, such as interbank lending and FX deposits. Any type of negative catalyst – whether it be an unexpected BoE pivot, a turn lower in data, or political volatility – could therefore create more acute weakness in GBP.

BNPP added; “Further, given the UK’s heavy reliance on foreign financing, a further expansion in deficit spending comes with the risk that GBP requires a discount to attract sufficient inflows from abroad.”

SocGen notes that the Euro-Zone and UK economies are both flirting with recession and productivity is very weak.

It adds; “in both cases, expectations are so firmly anchored that negative growth shocks are very hard to engineer. At the margin, that may still just about be truer of the UK, where this morning’s slightly above-expectations CPI print caused a significant reaction, despite coming after downside surprises in each of the previous two months.”

It added; “That supported sterling and took EUR/GBP back below 0.86. Relative rate trends suggest to us that we will see EUR/GBP creep up closer to 0.90 over the course of the year.

ECB policy will also be a key element.

ING expects the ECB will be cautious in cutting interest rates; “as long as the eurozone remains in de facto stagnation mode and doesn’t slide into a more severe recession, there is no reason for the ECB to react. Definitely not as long as inflation remains off target.”

ING, however, has been looking at the relative UK and Euro-Zone outlook. It suspects its 12-month forecast of 1.1110 for GBP/EUR is too aggressive and will have to be revised higher.

It noted; “Our bullish call on EUR/GBP this year is largely premised on the BoE cutting more than the ECB. Yet we may well be underestimating sterling strength and may need to lower our EUR/GBP profile over coming months.

Nordea doubts that a hawkish ECB narrative will stick in the markets; “For now it seems the ECB is not ready to open the door for rate cuts, so the main question is, how aggressively will they try to push back against market rate expectations at next week’s meeting, after the earlier attempts at the December meeting largely failed.”

It also considers that the bank’s view are likely to change if the data deteriorates.

Rabobank expects that the ECB will hold out for longer; “We are not unsympathetic to the view that the ECB may start cutting in June, but we narrowly favour September for now. Recent inflation data has been better than anticipated, and we have revised our headline estimate down. But core inflation may linger around 3% quite persistently and some key risks remain. These need to fade further for policymakers to consider rate cuts.”

The bank, however, considers that the weak Euro-Zone economy will be decisive in FX markets.

It noted; “we are concerned that the relative buoyancy of the EUR belies sour growth fundamentals in the Eurozone and specifically in Germany.”

The relative economic outlooks could be pivotal.

According to Danske Bank; “we expect the UK economy to perform relatively worse than the euro area and expect relative growth outlooks and central bank pricing to weigh on GBP.”

It added; “Additionally, we see the inflation outlook as a doubled edged sword for GBP. We target the cross at 0.89 in 6-12M.”

International Money Transfer? Ask our resident FX expert a money transfer question or try John's new, free, no-obligation personal service! ,where he helps every step of the way, ensuring you get the best exchange rates on your currency requirements.

TAGS: Pound Euro Forecasts