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Pound Sterling-Euro Exchange Rate Extends to 1.18 in Wake of von der Leyen Visit

- Pound extends recovery vs. Euro

- von der Leyen hints that EU & UK can reach partial deal by end-2020

- Greatly reduces prospect of cliff-edge scenario for Sterling

- Trade talks to only bother Sterling in second-half of the year

von der Leyen and Johnson Downing Street

Above: Prime Minister Boris Johnson greets EU Commission President Ursula von der Leyen on the steps of 10 Downing Street, Wed. Jan. 09. Image courtesy of 10 Downing Street, Gov.uk.

- GBP/EUR Spot rate: 1.1800, +0.09%

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The British Pound remains well supported on global foreign exchange markets after a senior EU politician said the UK and EU could enter a partial trade deal at the year-end.

European Commission President Ursula von der Leyen told an audience in London that the EU and UK would have to prioritise those elements of a trade deal they feel could be achieved by the end of 2020, even if the full package could not be agreed in time.

"The more divergence there is, the more distant the partnership has to be. And without an extension of the transition period beyond 2020, you cannot expect to agree on every single aspect of our new partnership. We will have to prioritise," said von der Leyen. The structure of the trade negotiations therefore look as though they will differ in a crucial way to the Withdrawal Agreement talks, which were structured in such a way that nothing is agreed, until everything agreed. The lows hit by Sterling over the course of the past three years tended to occur when the market was concerned that the UK would leave the EU without a deal because one or two nagging issues were holding back the entire deal.

This strongly suggests there will be no 'cliff edge' scenario facing the EU and UK if both sides fail to agree a full trade package by December, and it therefore makes talk of a 'no deal' Brexit virtually redundant. The risks to the UK economy and therefore the British Pound are greatly reduced by this stance.

The Pound-to-Euro exchange rate rose to 1.18 on Thursday morning, and in doing so keeps alive a steady short-term trend of appreciation that has been in place since December 23, and a broader medium-term trend that has been in place since August 2019:

Pound maintains uptrend vs. the Euro

Above: GBP/EUR remains in an uptrend.

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If the agreement on a future trade relationshipcan be staggered then the prospect of severe economic disruption resulting from any sticking points is minimised, while Prime Minister Boris Johnson can still keep his promise of not extending the transition period. "A disruptive outcome is not a certainty. Some kind of agreement may be possible by the end of the year, perhaps which covers most trade in goods, but leaves thornier issues for later," says Oliver Allen, an economist with Capital Economics. "We think the easing of at least some uncertainty could yet provide a bit more upside for both the economy, and the Pound."

Johnson has refused to extend the negotiating period for a trade deal to beyond year-end, thereby putting immense pressure on both sides to seek a solution in less than 12 months. Trade negotiations are only likely to begin at some point after February, as the EU is yet to deliver its negotiating team, lead by Michel Barnier, with a mandate. "In London I met Boris Johnson & looked at the year ahead: negotiating a new partnership but, as the President said, it will not be as close as now. Time is short. A new clock is ticking. Our focus is implementing the Withdrawal Agreement & preparing negotiations on EU side," said Barnier, who travelled with von der Leyen to London on Wednesday.

The negotiations should prove challening as the UK wants to diverge from the EU on a number of fronts, with question of fishing rights being an obvious flashpoint while the future role of the European Court of Justice will prove to be another.

Foreign exchange markets will take guidance from trade talks in 2020, and we expect the Pound to be reactive to progress, or lack of progress. "While we forecast that the pound will strengthen a touch this year, we think that the uncertainty surrounding a UK- EU trade deal will stop it from going to the races," says Allen.

However, what is becoming clear is that this is fast becoming a story for later in the year when the deadline is nearing.

The first half of 2020 could therefore see the Pound start taking more direction from the domestic economy, Bank of England interest rate decisions and crucially, the March budget.

Marc André Fongern, Head of FX Research at MAF Global Forex is bullish on Sterling's prospects over coming months:

"Basically, the UK pound is a sleeping giant, whose reputation has been significantly battered. It may be a fallacy to price in a no-deal scenario prematurely. The EU-UK trade negotiations aren't necessarily doomed to failure. Parliamentary arithmetic should hardly weigh on the pound sterling in 2020, i.e. against the background of reduced political risks, I expect a fundamental recovery of both the UK currency and the domestic economy."

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