Fundamental Forecast for British Pound: Bearish
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The British Pound had a relatively poor week, shedding 0.81 percent against the US Dollar, which was only the third-best performer. Against the top performer, the New Zealand Dollar, the British Pound lost 1.12 percent; yet it still managed to appreciate by 1.34 percent against the worst performer, the Japanese Yen. The British Pound’s weakness can be attributed to two distinct factors: the announcement ahead of the Greek elections that the Bank of England would introduce a massive liquidity program aimed at helping small- and medium-sized businesses; and the BoE Meeting Minutes, released on Wednesday.
Having discussed the liquidity program at length in prior forecasts, it’s best to keep our focus on what laid within the Minutes. One needs to look no further than the vote breakdown for the Asset Purchase Program, essentially the BoE’s version of the Federal Reserve’s quantitative easing programs. Unlike the four previous votes, in which only one or two members voted for more easing (with the votes tallying 8-1 or 7-2), the May meeting showed that the split was even more severe: four members dissented, with the vote for no more easing coming in at 5-4. This represents a dramatic shift in sentiment among the Monetary Policy Committee members, and it certainly suggests that we should expect a more dovish BoE in the coming periods. In light of this development, and regardless of the perceived benefits the British Pound may enjoy from haven flows resulting from the Euro-zone sovereign debt crisis, we firmly expect the British Pound to be one of the weaker currencies for the second half of 2012.
Moving on to data, there are three pieces of information we’re keeping our eyes on this week. On Tuesday, Public Finances data is due, and after showing a modest surplus in three of the past four months, a deficit is expected to be posted following expected lower tax receipts in May. Similar to the Currency Account, a deficit should weigh on the British Pound and if it grows further, it should drive the world’s longest tenured fiat currency lower in the coming months.
On Thursday, the other two pieces of data are due, in the form of Nationwide House Prices and the finalized first quarter Gross Domestic Product reading. In regards to the former, house prices are expected to decline for the fourth consecutive month a yearly-basis, adding to our long-held concerns that the British economy is facing a state of stagflation. These claims should be aided further by the first quarter growth figure. According to a Bloomberg News survey, the British economy contracted by 0.3 percent in the first quarter from the fourth quarter of 2012, while the yearly figure is expected to show a slight 0.1 percent contraction. Regardless, our conditions for stagflation are met: flat or contracting growth; elevated, sticky price pressures; and a stagnant labor market.
With growth concerns back in the forefront and the “pray for easing” trade fading into the background following the Fed’s meeting this week, the British Pound is set to extend its losses against the US Dollar. If the Euro-zone situation remains elevated, and no new measures come of the “Big Four” meeting this Monday, the Sterling could also post gains against the Euro and the Swiss Franc (the Euro and the Swiss Franc have shared a +0.91 correlation since September 6, 2011).