Political risk drives Sterling lower

Brexit reality pushes pound to seven-week low

The optimism that surrounded the start of stage two of Brexit talks, which include a transition period and how the future relationship will work in practicality, has evaporated as Brussels demonstrates its unwillingness to show any flexibility towards the talks.

The issue of the Irish border is symbolic of the virtual impossibility of a negotiated solution without a massive stand down from one side or the other. The UK cannot (not will not) allow for Northern Ireland to be “hived off” in any way from the mainland and the EU sees the only land border between the EU and UK as an issue it can use to pressure the Government.

The acceptance of the reality of this situation (among others) has demonstrated that a negotiated settlement within the time that remains is virtually impossible.

The pound dived to its lowest level since January 12th yesterday as the support from the possibility of a rate hike was overtaken by the reality of a hard Brexit. It reached a low of 1.3711 but recovered a little on profit taking to close at 1.3774. Versus the single currency, the pound continued its fall from the day before reaching a low of 1.1225 and remaining weak overnight.

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Trump tariffs brings prospect of trade war

Any possible disruption of trade flows through legislation tends to be bad for the dollar and so it proved yesterday as President Trump confirmed tariffs would be charged on U.S. imports of Steel and aluminium.

The dollar index halted its recent rise, driven primarily by the optimistic testimony of Fed Chair Jay Powell as fears of protectionism and the effect it could have on the economy took hold.

The dollar had been rising this week as the prospect of a fourth rate hike to add to the three virtually priced in took hold.

Powell’s testimonies had provided an upbeat view of the prospects for the economy although just how proactive he is prepared to be remains open to question.

Next week, trader’s attention will turn to the February employment report to see if the increase in wage inflation seen in January can be sustained. If the rate of growth incomes can be sustained the four-hike strategy will be virtually confirmed although asset prices will see a continuation of their recent correction.

Longer term, the pickup in economic activity will be beneficial for equity markets but the effect of the withdrawal of the support of cheap money could take a while to get over. The dollar index gave back most of its recent gains reaching a low of 90.22, still above the multi-year lows seen recently.

Euro suffering from political uncertainty.

The first round of voting in the Italian General Election will take place on Sunday and the effect on Brussels of potential anti-EU feeling is hard to quantify. The EU can barely afford further disruption as it tries to engage the population in a closer relationship than incorporates a more Federal outlook.

Brexit will take its toll on economic activity as supply chains are fractured in the light of the UK’s determination to leave the customs union and single market in goods, services and labour.

Italian politics are notoriously volatile and the partners in any coalition are prone to a level of expectation that belies the size of the vote they receive. There are two major anti-EU demands that will be worrying Brussels. The first concerns the issuance of a currency to rival the Euro that would be used exclusively for domestic transactions. The proposed currency does not hold the implicit guarantee of the Italian Central Bank so does not contravene the EU regulations. Second, there is a proposal to deport most of the migrants who have been arriving from North Africa who have settled in Italy despite proposals for them to be “disbursed” through the EU. Several eastern countries of the EU are baulking at such proposals.

The single currency has sagged this week as the dollar has started to recover. It has reached a low of 1.2154 although any further weakness will most likely attract buying ahead of support at 1.2080.