Foreign exchange analysts at Danske Bank forecast the Pound Sterling (GBP) will retreat to 1.1365 against the Euro (EUR) on a 12-month view. While this tallies with the consensus among analysts, currency strategists at CIBC and Scotiabank foresee GBP/EUR gains by the end of 2023.
The Pound to Euro (GBP/EUR) exchange rate has posted strong gains during the week.
Markets took a slightly positive view over UK yields with expectations that the Bank of England (BoE) would be the last major central bank to stop rate hikes.
The pair also received a boost from a Euro slide after the ECB policy decision.
GBP/EUR advanced to a 2-week high just above 1.1700 before a correction to 1.1660.
Peak ECB rates would make it easier for GBP/EUR to make headway, but the UK economy and BoE stance will be crucial.
The ECB increased interest rates by 25 basis points at the latest meeting which was in line with consensus forecasts and took the refi rate to 4.25%.
According to the bank, developments since the last meeting support the expectation that inflation will drop further over the remainder of the year but will stay above target for an extended period.
It also noted that financing conditions have tightened again and are increasingly dampening demand, which is an important factor in bringing inflation back to target.
Bank President Lagarde stated that inflation is to remain too high for too long. She added that the near-term outlook for the Euro-Zone has deteriorated, primarily due to weaker domestic demand.
Nevertheless, she also commented that domestic price pressures, including from wages and profit margins, are becoming an increasing source of inflation.
As far as the September decision is concerned, Lagarde stated that the bank is open minded as it might or might not raise rates further.
The overall stance was seen as relatively dovish and there was a scaling back of market expectations surrounding a potential September hike.
According to Nordea; “The wording change in the statement explicitly left open the possibility of not raising rates further, and Lagarde confirmed this change was significant.
It added; “We think the ECB is done hiking rates, though future data releases will eventually determine, whether the data-dependent ECB hikes rates further.”
The Bank of England will announce its latest policy decision on August 3rd.
The consensus is that the central bank will opt for a further rate hike of 25 basis points with this month’s inflation data scaling back expectations of a 50 basis-point hike.
There is still an important element of uncertainty, especially with the bank’s models effectively broken.
Sanjay Raja, senior economist at Deutsche Bank commented; "With CPI dropping by a lot more than expected, and services CPI coming in below our expectations, we now think a quarter point hike is more likely," at the August decision with the equally surprising CPI print offsetting the rise in wage growth."
JP Morgan added; "The BoE has more work to do but the inflation surprise bolsters confidence that it returns to a 25 bps pace of tightening in August."
He added; "The slide in core goods prices is likely to be sustained, but services price inflation remains extraordinarily elevated alongside wage growth running above 7%."
HSBC expects the bank will maintain a hawkish stance; “We believe the MPC will still want to send a strong signal on inflation.”
The bank expects a 50 basis-point hike to 5.50%.
Medium-Term UK Stagflation Threat
The EY Item Club has revised its GDP growth forecasts.
The UK economy is expected to post 0.4% GDP growth for 2023 from 0.2% projected previously but the following year's forecast has been cut to 0.8% from 1.9%.
According to EY; “The economy remains on course to avoid recession, although the 2025 GDP growth forecast has also been downgraded, from 2.3% to 1.7%.”
Hywel Ball, EY UK chair, commented; “The economy is moving past the series of shocks which have buffeted it in recent years, but their repercussions are long-lasting and holding back UK growth.”
GBP/EUR Forecasts: Where do the CIBC, Scotiabank, Citibank and Danske Bank Analysts See Sterling vs Euro?
CIBC expects that GBP/EUR will strengthen to 1.1760 at the end of 2023 before a retreat to 1.1480 at the end of next year.
Scotiabank forecasts that GBP/EUR will strengthen to 1.2050 at the end of 2023 before a retreat to 1.1865 at the end of next year.
According to Citibank; “A more hawkish ECB vs a BoE facing UK recession risks may support the medium-term outlook for EUR vs GBP as ECB keeps financial conditions tighter for longer than most other central banks, including the BoE. This then leads to a significant narrowing in EUR/GBP rate differentials in 2024 and a stronger EUR/GBP cross.” (GBP/EUR losses.)
It added; “A risk to this more positive EUR view is the lack of a Chinese recovery given Euro area’s closer links to China via the export channel. But this risk is likely outweighed by the sharp and sustained rebound in Euro area’s terms of trade from the lows in August 2022 as Europe successfully weans itself from Russian gas.”
According to Danske Bank; “On balance, we continue to see relative rates as a positive for EUR/GBP, which is one of several reasons behind our fundamental predisposition of buying EUR/GBP dips.”
Danske Bank is in tune with the consensus and expects GBP/EUR will retreat to 1.1365 on a 12-month view.