Sterling wobbles as UK headwinds intensify
Sterling has struggled for direction this week, trading within a tight range against both the US dollar and the euro. The pound has hovered around $1.33, unable to sustain a convincing move either way, while €1.15 continues to act as a magnet for GBP/EUR. All eyes are now on the Bank of England’s meeting, where a quarter-point interest rate cut is widely anticipated. Yet the broader question looms: is there any outcome that favours the pound?
With a rate cut almost entirely priced in by markets, attention is shifting to the vote breakdown, the Bank’s economic projections, and its future guidance. Should the Monetary Policy Committee adopt a more hawkish tone in response to persistently high inflation within a stagflationary backdrop, it could backfire and place additional strain on sterling. Conversely, a shift towards lower interest rates is likely to reduce the appeal of UK assets, as falling yields make them less attractive to international investors.
The domestic landscape provides little comfort. Although July’s composite PMI was revised up slightly to 51.2, thanks to stronger services activity, the UK economy continues to lose momentum. The Citi Economic Surprise Index has moved sharply into negative territory, underlining a series of disappointing economic figures. Without meaningful fiscal support until the autumn Budget, our previously optimistic projection for sterling to reach between $1.35 and $1.40 now looks increasingly ambitious – unless the dollar begins to retreat. We still believe a broader decline in the US currency is on the cards as summer draws to a close, which could give the pound some breathing space later in the year.
Euro on pause as data and tariffs reshape outlook
The euro has begun the week in consolidation mode, holding steady in the upper reaches of $1.15 against the US dollar. EUR/USD remains capped just below the 50-day moving average, while support from the 100-day average around $1.1384 held firm last week. Although the price action has been quiet, developments beneath the surface suggest the euro may be facing increasing pressure.
June’s eurozone producer price index rose by 0.8 percent month-on-month, ending a three-month slide. The increase was driven largely by a surge in energy costs, which jumped 3.2 percent after declining in May. While the headline data aligned with expectations, it underscores how volatile input prices remain.
Geopolitical trade concerns are also re-emerging. President Trump has proposed a sweeping new set of tariffs targeting pharmaceutical imports, with rates potentially rising to 250 percent within 18 months. For the euro area, the implications are significant, given that medical and pharmaceutical goods make up around one-fifth of its total exports to the United States. Although markets reacted calmly – partly due to the EU’s decision to delay any retaliatory measures – the economic consequences may prove more complex. Reduced demand for exports, along with global supply chains shifting away from Europe and towards Asia, could put downward pressure on prices. This, in turn, may strengthen the case for further monetary easing by the European Central Bank.
Fed policy pivot gains traction amid mixed signals
A wave of soft US economic data has strengthened expectations that the Federal Reserve will begin cutting interest rates as early as next month. Last Friday’s weaker-than-expected jobs report rattled equity markets, weakened the dollar, and drove bond yields sharply lower. Despite the volatility, investor confidence in the resilience of US companies has kept stock indices broadly stable, supported by growing belief that the Fed will act to forestall a recession.
San Francisco Fed President Mary Daly lent weight to this dovish outlook, suggesting that the time for easing is drawing near as the labour market softens and inflation remains under control, even in the face of tariff pressures. Money markets now indicate an over 80 percent chance of a rate cut in September, with a one-in-three possibility of a second reduction by year-end.
This raises a pivotal issue for risk markets: will weaker data be seen as a red flag or as a green light for easier policy? A moderate slowdown could bolster investor appetite by increasing the likelihood of supportive monetary action. However, if unemployment rises sharply and persistently, sentiment could deteriorate, especially if earnings expectations are revised lower.
The latest ISM services survey encapsulates the complexity facing policymakers. Activity came in below expectations, employment dropped to its lowest level since March, and yet input prices surged to their highest reading since late 2022. This uncomfortable combination of slowing growth and sticky inflation is precisely what many economists feared would result from the new tariff regime. The fact that such dynamics are surfacing in the services sector – usually less exposed to trade frictions – makes the picture even more concerning.
Markets responded accordingly. Equities, Treasury yields, and the dollar all came under pressure. Looking ahead, we continue to see the risks for the dollar tilted to the downside, particularly if the Fed shifts course, tariff-induced drag deepens, and the current US administration continues its unpredictable economic interventions.
