Variety of outcomes still on the table

When the UK voted in an in/out referendum in June 2016 no one could have foreseen the effect the vote would have on every aspect of life in the UK. There was an almost “cavalier” attitude to the outcome from those favouring remaining within the EU. They believed that the vote was little more than a sop to those who saw so much wrong with the EU but were considered “little Englanders” by the perceived majority.

Now, today, we finally arrive at a “meaningful” vote in Parliament on the terms the Government has managed to agree with the EU for the UK to finally depart. That agreement has been picked apart by every sector of society and it stands as a monument to the futility of the entire process.

As the vote takes place this evening, just about every outcome is possible and that has led to a degree of uncertainty in the financial markets.

The almost certain outcome, however, is a defeat for the Government of something between 100 and 150 votes, although it could easily be more than 200. In case of any defeat, the Prime Minister, if she decides to remain, is committed to bringing a “plan B” before MPs within a week.

One of the possible interim proposals could be a delay in the triggering of article 50 of the Lisbon agreement until July which would provide time for a solution to be found.

When that possibility hit the newswires yesterday, Sterling rallied to a level not seen since last November. It reached a high of 1.2930 before closing at 1.2867. It has rallied again overnight, reaching a high so far (0600GMT) of 1.2917. It would appear that any delay to Brexit would bring a little comfort to the market.

This illustrates the nervousness that has pervaded the market as traders decide that the risks surrounding the entire effect of the vote are too great and uncertain to be able to confidently predict a path for the currency.

It is difficult to believe that the vote this evening is not a free vote. MPs on both sides have received instructions from their parties on how they are expected to vote. The fact that so many, particularly on the Government side, will defy their “whips” and vote against their party’s instructions adds to the whole uncertainty of, not the outcome, but the fallout.

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The dollar continues to search for a base

Last years almost one-way bet for the dollar, as the Fed hiked rates to try to rein in growth and an expected rise in inflation that never really came, has left the greenback in a state of flux as the Central Bank struggles to regain and retain independence.

2018 was not a great year for the credibility of Central banks globally. Not only did the Fed allow the market to second guess it successfully, but the ECB provided such long term guidance on its monetary policy that it has tied its own hands and the Bank of England dithered indecisively over Brexit and the underlying economy.

The Fed has always been the paragon of decisive action but that has maybe been more of a testament to those at the top than the tools it has available. All G7 Central Banks have a similar set of goals and rules; to promote sustainable growth in the economy while controlling inflation within a band or at a certain level. It is how they go about that task that varies considerably.

The level of the currency is tied in with the control of inflation since that has a major bearing on the cost of imports and the level of exports. The U.S. has always had a strong dollar policy which has, in recent years been more of a “macho” image than anything more serious.

Successive Treasury Secretaries have seen the U.S’s share of world trade fall due to the strength of the dollar as other nations (China in particular) have been accused of manipulating their currencies.

As things stand, the Fed is at something of crossroads as the economy is starting to falter and inflation remains benign. Last years dollar rally which went a long way to controlling inflation is at an end and just how far it may fall is an unknown. Until Q4 ‘18 and Q1 ‘19 growth data has been released the dollar will be subject to short term moves related to individual data releases like the monthly employment report which is still exhibiting strength in both new jobs and wage growth.

Yesterday the dollar index was virtually unchanged on the day closing at 95.60, just six pips lower than its opening level.

Benign neglect can only go so far

For whatever reason, the ECB, especially during the term as President of Mario Draghi has become known for a policy of allowing the economy to “find its own level”. This has a lot to do with the fact that the tools available to the Central Bank leave it with one hand tied behind its back.

It looks on plaintively as the U.S. stimulates its economy by cutting taxes and providing (borrowed) funds to increase infrastructure projects while all it can do is cut interest rates to zero and buy bonds to ensure ample liquidity.

Inflation is not an issue in the region as this week’s data will show. December pan-eurozone inflation is expected to be unchanged at 1.6% leaving the year on year at 1%. With no change in interest rates even being contemplated before Q4, it is developments on a political and social level that will be prime drivers for the single currency this year.

That means that the single currency will be prone to long periods of inactivity or at least reactive behaviour interspersed with short sharp moves driven by reaction to events such as the Italian budget or French social unrest.

As Brexit approaches, quickly followed by the May elections, there will be plenty to consider but it is how the ECB deals with the 2.4 trillion euros of bad debt still being carried in bank’s balance sheets that could be the major catalyst for significant change for the currency.

Yesterday, the euro drifted a little higher, reaching 1.1483 versus the dollar, still shy of the resistance level at 1.1520 as new sell orders start to build around that level.