The pound is extremely sensitive to global market sentiment and concerns over a slowdown in UK economic growth in the coming months. Investors fear that this will also influence the Bank of England’s monetary policy decisions and could diminish expectations for future interest rate hikes.
The pound fell as higher oil prices resulted in a stock market selloff. Chancellor Rishi Sunak’s Spring Statement also contributed to the pound’s weakness as it offered a disappointing assessment of the UK economic outlook. The Chancellor said that “The actions we have taken to sanction Putin’s regime are not cost-free for us at home. The invasion of Ukraine presents a risk to our recovery as it does to countries around the world.” After the Spring Statement announcement, the chancellor has been criticised for failing to help those who are out of work and on lower incomes.
1.3 million could fall into poverty
The Chancellor’s Spring Statement on Wednesday has attempted to alleviate some of the pain from rising prices by providing some tax cuts, including a 5p-a-litre off fuel duty and a £3,000 increase in the limit for national insurance payments. However, it was criticised for failing to support poorer families and vulnerable groups from the rising cost of living. According to new analysis of Wednesday’s Spring Statement by the Resolution Foundation, around 1.3 million people will fall into absolute poverty in the next year. Typical working-age household incomes will drop by 4 per cent in real-terms next year (2022-23), a loss of £1,100. The poorest quarter of households could see their incomes drop by 6 per cent.
The Institute for Fiscal Studies noted that the Spring Statement omitted "anything for those subsisting on means-tested benefits", who will be dealing with the cost of living increases of about 10% "but their benefits will rise by just 3.1%." Paul Johnson, the Director of the institute told a news conference: "His choice to increase national insurance rates and reduce the basic rate of income tax looks, to me at least, indefensible from an economic point of view - though one can see the political attractions."
The pound has been very sensitive to news regarding the war in Ukraine but hopes for a ceasefire have helped markets recover. Investors have also come to terms with the situation and do not expect a further escalation.
The pound is forecast to continue to strengthen as the situation in Ukraine improves, but any unpredictable turn of events could create currency volatility.
Energy prices and the currency market
Oil prices have been surging and this creates more risks to global economic growth and increases volatility. Currencies such as the pound and euro, for example, that belong to countries that are net importers of energy have been especially sensitive when energy prices rose. On the other hand, currencies such as the Australian, New Zealand and Canadian dollars which belong to countries that are energy and commodity exporters have strengthened. Safe-haven currencies like the Swiss franc and US dollar have also strengthened.
According to Barclays’ research, the UK is the most energy sufficient currency out of the G10 currencies as it produces 71% of its primary energy consumption needs, with over 80% of the UK’s natural gas imports coming from Norway, and only 15% from Russia. While it is affected by the surge in energy prices, it is not as much affected as other European countries. The OBR said that “higher global energy prices will weigh heavily on a UK economy that has only just recovered its pre-pandemic level.”
Rishi Sunak has pointed out that the Government could intervene on energy bills before the autumn if bills rise sharply again in October. He told BBC Radio 4’s Today programme: “Yes, of course we’ll have to see where we are by the autumn and it’s right for people to recognise that they are protected between now and the autumn because of the price cap.” He added: “I always keep everything under review, and the Government, as it’s shown over the past two years, is always responsive to what’s happening. But I would say with energy prices, you know, they are very volatile, and I don’t think you, I or anyone else has any certainty about what will happen in October right now.”
BoE and interest rates
The ongoing rise in inflation could push the BoE to raise interest rates further, however, the Bank could also exercise some caution as higher rates could slow down economic growth. The currency market is currently pricing in up to 130 points of rate hikes in 2022, but some analysts say the Bank will fail to meet market expectations.
If rate expectations continue, then the pound will remain supported but if any such expectations are cut then the pound will fall. Some analysts have noted that the pound could go lower against the euro if the market raises its bets that the European Central Bank (ECB) will tighten policy at the end of 2022.