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Pound Sterling: UK Economic Rebound Could be Bigger than Expected, Which Could Help Sterling Recover against Euro and Dollar

- Strength of UK economic rebound could be under-estimated
- Stronger data could help GBP going forward
- However, momentum remains pitted against GBP short-term

Johnson UK economy

Above: Prime Minister Boris Johnson announces further lockdown easing measures in Parliament on Tuesday. Image © UK Parliament/Jessica Taylor

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The British Pound could find itself better supported against the Euro and Dollar over coming weeks if UK economic data continues to come in better than expected now that the economy is being released from lockdown, however those looking for a stronger Sterling will continue to have to exercise patience in the near-term.

PMI data for June which came out on Tuesday beat expectations and suggests markets might be under-estimating the scope for an economic bounce-back in the UK, which would ultimately prove beneficial to Sterling, particularly now the Government has confirmed a further easing of measures from July 04.

The Markit/CIPS Manufacturing PMI read at 50.1, above the previous month's 40.7 and above consensus forecasts for a reading of 45 to be delivered. The Services PMI read at 47, ahead of forecasts for 40 and a marked improvement on the previous month's reading of 29.

The Composite PMI - which weighs the two to give an assessment of the broader economy - read at 47.6, which is above the consensus forecast for 41 and the previous month's reading of 30. The rise since May (+17.6 points) was the largest for the Composite PMI since the start of the series in January 1998, which highlighted a decisive shift in momentum according to IHS.

PMI data

However, even this better than expected data could be underplaying the strength of the rebound says one economist we follow.

"A literal interpretation of the figures suggests that manufacturing activity stabilised in June while service sector activity fell further, as a reading below 50 indicates a contraction compared to the previous month. However, some of the respondents may make a pre-Covid-19 comparison instead. Therefore, the sharp increase in June suggests activity is picking up quicker than expected," says Kjersti Haugland, an analyst at DNB Markets.

Haugland suspects businesses are comparing the current month’s activity with pre-Covid-levels instead of the previous months and that the economies above are rebounding markedly, after the severe downturn this spring.

The British Pound tends to outperform when the UK economy is growing and therefore the currency might find itself better supported in coming weeks if better-than-expected data starts to come through.

The Pound-to-Dollar exchange rate edged higher in the hours following the release to reach a high of 1.2543 in the mid-week session, while the Pound-to-Euro exchange rate continues to edge lower and is now quoted at 1.1053 as the Euro also benefited from consensus-beating data.

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The prospects for the economy to register a stronger performance was boosted by Prime Minister Boris Johnson who on Tuesday announced a further easing of lockdown restrictions that will see pubs, restaurants, hair dressers and the hospitality industry open up again.

Johnson announced to Parliament that the two-metre rule will be replaced by a new “one-metre plus” regime that will enable pubs and restaurants to reopen along with campsites, hotels and holiday homes on July 4.

People from two households will be allowed to meet indoors either in their homes or at other venues in a further expansion of social contacts from that date.

"GBP/USD is trading near this week’s high at around 1.2520. UK Prime Minister Boris Johnson announced lockdown restrictions will be significantly eased in July as he weighed economic costs against the health risks. While encouraging consumers to spend, he also warned of the risk of a second wave of infections. The widespread lockdowns have taken a huge economic toll on the UK economy, causing the UK GDP to contract by 20.4%/mth in April," says Carol Kong, a strategist at CBA.

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However, those looking for a stronger Pound should excercise patience in the near-term as the currency continues to struggle due to a host of factors that will take time to resolve.

Data shows Sterling to be the worst performer in the G10 for the past month, while the past week also sees it near the bottom of the pack which reflects a short- to medium-term trend is in place against many major currencies and this will prove tough to crack.

Contributing to this under-performance is the sense that Brexit trade negotiation uncertainty will contribute to economic underperformance over coming weeks and months while the Bank of England's stance on quantitative easing and interest rates is also proving unhelpful.

"The lack of momentum reaffirms the relatively low levels of participation in the GBP owing to the ongoing UK/EU FTA negotiations. We continue to think that both sides are moving closer to a deal, and that the pair will probably experience a 4% to 5% rally once it's struck. The key issue is timing; but if we had to judge the next 4 to 5 big figure move in the pair, it would be up," says Stephen Gallo, European Head of FX Strategy at BMO Capital Markets.

All the while a sense that the UK economy will also be hit harder than its peers due to the covid-19 shut downs is also contributing to pessimism regarding the UK and its currency, however should data come in better than expected then sentiment could begin to favour the currency once more.

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