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Lloyds Bank Exchange Rate Forecast Update

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© Gary Howes, Pound Sterling Live

Not even a restless Bank of England can save the Pound from renewed weakness this year, while the Euro also faces headwinds in the short term, leaving the US Dollar as winner this quarter and next.

The Pound is likely to succumb to a renewed bout of weakness against the Dollar and Euro later this year, according to strategists at Lloyds Banking Group, who have reiterated their bearish outlook for the British currency in their latest forecast book.

Sterling has led a charmed life in recent weeks, rising solidly against many of its rivals during January as markets took heart from December’s agreement to move Brexit negotiations forward and investors rewarded a resilient performance from the UK economy.

Now, a strong performance from the UK and global economies has seen Bank of England policymakers grow concerned that, even with the recovery of Sterling, inflation will remain stubbornly above its 2% target without further intervention.

As a result, more interest rate rises are no longer a question of if, but more a matter of when.

Nonetheless, the Pound was elbowed off of its upward path in the second week of February, by unease over the latest round of Brexit negotiations and turbulence across global financial markets.

These factors will continue to weigh on the British currency in the months ahead, according to Lloyds, outweighing the positive allure of rising interest rates.

Meanwhile, Italy’s election in March is expected to chip away at the Euro’s recent gains over the coming weeks and the Dollar should be boosted by a return of financial market volatility and an increasingly aggressive Federal Reserve.

Pound-to-Dollar

"The pound increased to new post-referendum highs against the dollar, supported by positive UK economic data, but it was weighed by tensions in Brexit negotiations, while the US dollar showed renewed strength."

"We still expect three US rate rises this year, but the risk of four hikes has risen. In the UK, we anticipate one rate rise this year, in August, although there is a significant risk of an earlier increase in May. Complex Brexit negotiations may yet weigh on sterling this year, but we see it rising back to 1.38 at end-2019."

"UK Q4 GDP grew by 0.5%q/q, stronger than expected, while employment growth rebounded and January CPI inflation stayed well above target at 3.0%. The Bank of England kept interest rates at 0.5% at its February meeting, but said that policy “would need to be tightened somewhat earlier and by a somewhat greater degree over the forecast period”."

"The dollar remained under pressure during January, but recovered some ground after US January wage growth rose to a post-crisis high of 2.9%. That led to market concerns that rising inflation could result in a faster pace of Fed policy tightening."

Pound-to-Euro

"The pound has remained in a range against the euro since September. Strong UK economic data, including Q4 GDP growth of 0.5%q/q and a rebound in employment, provided support for sterling."

January CPI inflation remained well above target at 3.0%. The BoE kept interest rates at 0.5%, but signalled that policy “would need to be tightened somewhat earlier and by a somewhat greater degree over the forecast period”. We still expect the Bank to raise rates once this year to 0.75%, in August, although there is a significant risk of an earlier increase in May."

"Eurozone activity data remained strong, but inflation has yet to return to target on a sustainable basis. The ECB has kept its asset purchases open-ended for now and reiterated that policy rates will remain at present levels “well past” the end of bond buying. Our central view is that asset purchases will end this year, paving the way for a rise in policy rates in mid-2019."

Euro-to-Dollar

"Further euro appreciation prompted the ECB to warn after its January policy meeting that recent exchange rate volatility requires “monitoring”for its implications for inflation in the medium term."

"The Eurozone economy grew at a robust pace of 2.5% in 2017 as a whole, but domestic price pressures have yet to show convincing signs of a sustainable return to target."

"We still expect three US rate rises this year, but the risk of four hikes has risen. Our central view for the ECB is that asset purchases will end this year, paving the way for a rise in interest rates in mid-2019."

"Political uncertainties could return in the Eurozone, with the risk of inconclusive Italian elections on 4 March and with a ‘grand coalition’ in Germany yet to be confirmed. We maintain our forecast for EUR/USD at 1.22 at end-2018 and 1.27 at end-2019."

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