GBP/USD trading at a two-and-a-half month peak

Tariffs and DOGE Shake Market Confidence, Fuelling Fed Rate Cut Bets

Tariffs and DOGE are undermining market confidence and increasing expectations that the Federal Reserve will need to cut interest rates further. The U.S. Dollar fell nearly 1% after President Donald Trump confirmed that tariffs on Mexico and Canada would proceed, signalling that markets view the move as detrimental to the U.S. economy. The Dollar also registered similar losses against the Euro and Yen.

In response, Canada and China imposed reciprocal tariffs after Trump announced an additional 10% increase on February’s existing 10% tariff on Chinese imports. The U.S. Dollar Index, which measures the Dollar’s broad value, dropped 0.80% on the day of the announcement—its largest decline in four weeks. Previously, the Dollar had shown resilience amid tariff escalations, but this shift suggests a weakening trend as the trade war continues.

Signs of an economic slowdown in the U.S. are becoming evident, prompting financial markets to anticipate more aggressive rate cuts from the Federal Reserve. Money markets indicate that investors are pricing in 75 basis points of cuts by the December meeting—equivalent to three 25bp cuts—up from a single expected cut in early February. This is weighing on U.S. bond yields, which, in turn, is pressuring the Dollar.

Economic indicators reflect growing concerns. Monday’s Services PMI for February highlighted that DOGE spending cuts are affecting private sector spending decisions, while the latest Manufacturing ISM report emphasized the uncertainty surrounding tariffs. The February headline index stood at 50.3, a slight decline of 0.6 points from January.

This morning GBP/USD rose above 1.2800, a new two-and-a-half month peak.

GBP/USD > 1.2800
Trump confirms tariffs

Market Turmoil as US Tariffs on Canada and Mexico Move Forward

Global markets experienced significant turbulence overnight after US President Donald Trump confirmed that new tariffs on Canada and Mexico would take effect as scheduled at midnight on Tuesday, March 4.  The tariff on Chinese goods will rise to 20%, up from the 10% announced in January, and will be implemented as planned.  As a result, the US dollar weakened on the day, with the most notable movement being a sharp decline against the euro. The EUR/USD pair rose by 1.1%.

The softer US dollar reflects growing expectations that the Federal Reserve will counteract the economic impact of tariffs by implementing further interest rate cuts.  Market data indicates that investors are now pricing in 75 basis points of rate reductions by the December meeting, suggesting a shift from just one 25bp cut at the start of February to as many as three.  US stocks took a hit, with the Dow Jones dropping 1.5%, the S&P 500 falling 1.8%, and the Nasdaq sliding 2.6%. The S&P 500 is now down 4.9% from recent highs, while the Nasdaq has declined 8.7%.

In contrast, foreign exchange markets reacted more cautiously, as investors grew concerned about the impact on US economic growth, particularly given recent signs of weakness in economic data.  Overnight, the US ISM manufacturing index for March came in at 50.3, down from 50.9 the previous month and below the forecast of 50.6. Additionally, US retail sales and consumer confidence figures have recently fallen short of expectations.

US Dollar in Focus as Markets Await Key Economic Data

The US dollar remains in the spotlight as markets digest the impact of new tariffs and turn their attention to key economic indicators.  Later this week, the release of US non-farm payroll data will be closely watched. Job growth is expected to rise slightly, with an estimated 185,000 new jobs added in February.

January’s weaker figures were partly due to unusually cold weather and wildfires, which could lead to a rebound in this report. However, leading indicators suggest a potential underlying slowdown, and we expect employment growth to moderate in the coming months.

Additionally, President Trump’s federal hiring freeze may have contributed to a decline in government employment, which is projected to have fallen to 15,000 for the month.  Meanwhile, the unemployment rate is expected to hold steady at 4.0%, with both layoffs and hiring remaining low.

Euro and British Pound Strengthen Amid Tariff Exemptions

The euro and British pound outperformed overnight, as markets responded positively to the perception that Europe and the UK have, for now, avoided US tariffs.

Today, the UK BRC shop pricing index will be released. Over the past six months (August 2024–January 2025), BRC shop price inflation has remained negative. However, in January, the rate of deflation eased to -0.7% year over year.  Historically, non-seasonally adjusted prices tend to rise by 0.4% month over month in February. If this trend continues, the annual deflation rate would remain at -0.7%.

The British pound has shown resilience amid recent tariff developments, with GBP/USD reaching a two-month high overnight. The GBP has also strengthened across APAC markets.

Markets swing with risk sentiment

Market Volatility Rises Amid Geopolitical Tensions and Economic Uncertainty

Global markets faced renewed pressure last week as tensions flared between President Trump and Ukrainian President Zelenskiy during a meeting in the Oval Office. Their disagreements over the war in Ukraine led to the abrupt cancellation of a planned joint press conference, signalling that a peace agreement remains distant. Meanwhile, ongoing geopolitical uncertainty and tariff concerns have weighed heavily on risk assets, adding to investor unease.

Compounding these worries, doubts about the strength of the U.S. economy have intensified. Weaker-than-expected macroeconomic data and a surge in imports ahead of impending tariffs have driven growth expectations sharply lower. The Atlanta Fed Nowcast for Q1 plummeted from 2.3% to 1.5%, a decline typically seen during periods of economic distress. Inflation data released on Friday met expectations, with the PCE index rising 0.3% month-over-month in January. However, personal spending fell by 0.2%, marking its first decline in nearly two years.

Despite worsening economic indicators, the U.S. dollar extended its rally for a third consecutive session, buoyed primarily by geopolitical instability rather than strong fundamentals. Investor expectations for Federal Reserve rate cuts have shifted dramatically, with markets now pricing in three cuts for 2025 instead of just one. This sentiment is reflected in Treasury yields, as the 2-year yield dipped below 4% for the first time since October, aligning with the recent drop in the U.S. surprise index. This week’s labour market data will serve as a crucial test for both the U.S. economy and the dollar.

Tariff decisions on Mexico, Canada, and China are set to be confirmed on Tuesday, potentially shaping global foreign exchange trends for the week and beyond.  

The March 4th announcement is expected to see the U.S. President move forward with 25% tariffs on Mexico and Canada, directly impacting those economies, along with a 10% tariff on China. If these measures proceed, the message for the Eurozone will be clear: the European Union is likely next in line for similar trade penalties. As a result, the euro could face additional pressure in the coming days.

Euro Faces Pressure Amid Geopolitical Uncertainty and Policy Challenges

Geopolitical uncertainty continues to weigh on the euro, dampening market sentiment despite signs of gradual improvement in European economic conditions. While the U.S. economic outlook is deteriorating, leading investors to price in three Federal Reserve rate cuts, the European Central Bank (ECB) faces a more complicated policy landscape as inflation picks up again.

However, recent currency movements have been driven more by political tensions than economic data. The ongoing rift between Trump and Zelenskiy, along with fading hopes for a near-term peace agreement, has pushed the euro lower for the second consecutive week, bringing it back below the $1.04 level. Those anticipating a decisive market reaction from Thursday’s ECB meeting may be left disappointed.

With a 25-basis point rate cut already fully priced in, the focus will shift to the ECB’s forward guidance. Yet, with ongoing geopolitical risks and trade uncertainties, policymakers are likely to tread cautiously. Today’s Eurozone inflation report is expected to show some easing in price pressures, but the euro’s next major move may depend on broader political or economic developments. A significant surprise in Friday’s U.S. labour market report would likely be needed to push the currency meaningfully above $1.05 or below $1.03.

GBP/USD Retreats Amid Geopolitical Uncertainty but Holds Firm Against Euro

After briefly climbing to a two-month high above $1.27 last week, GBP/USD has retreated toward the $1.26 level as geopolitical tensions resurface. The tense White House meeting between Trump and Zelenskiy has cast doubt on a potential U.S.-brokered ceasefire between Ukraine and Russia, weighing on risk-sensitive assets like the pound. While sterling has weakened against safe-haven currencies, it remains resilient against the euro, with GBP/EUR closing the month above €1.21 for the first time since 2016.

The UK’s reliance on foreign capital inflows, due to its persistent current account deficit and worsening net international investment position, makes sterling vulnerable to shifts in risk sentiment. A sharp decline in equity markets could put additional pressure on the pound. However, Britain remains a lower priority for Trump’s tariff policies, both due to the relatively balanced UK-U.S. trade relationship and his generally favourable stance toward the UK. As a result, sterling is seen as somewhat insulated from tariff risks, with FX options markets showing less bearish positioning on GBP compared to other G10 currencies.

This week, the key upside risk for sterling lies in potential policy shifts from the White House. If Trump delays or reverses planned tariff increases on Mexico and Canada set for Tuesday, broader risk sentiment could improve, supporting the pound. Additionally, disappointing U.S. economic data—particularly Friday’s labour market report—could further bolster GBP/USD, potentially pushing it back above the $1.27 level.

Dollar Balancing Tariffs, Weaker Growth

Dollar Balancing Tariffs, Weaker Growth

Once again, trade and geopolitical developments overshadowed what appeared to be a significant day for US macroeconomic updates. Data on durable goods, home sales, jobless claims, and GDP presented mixed signals regarding the state of the world's largest economy. GDP grew at an annualised rate of 2.3%, while unemployment claims reached a two-month high and declined for the second consecutive month. Overall, the data continues to indicate weakening economic momentum, and the dollar would likely have depreciated under these circumstances were it not for the latest tariff announcements.

Markets reacted to fresh tariff measures announced by the US President. Donald Trump confirmed that the 25% tariffs on Canada and Mexico would proceed, while also hinting at the possibility of new tariffs on China as early as March. This news bolstered the dollar against the Canadian dollar and Mexican peso. However, the Greenback’s strength extended to most major currencies as well.

Beyond trade, Trump’s refusal to commit to a security backstop in Ukraine added another layer of geopolitical uncertainty. During his meeting with UK Prime Minister Keir Starmer, he reiterated that the priority should be securing a peace agreement between Russia and Ukraine rather than discussing long-term military commitments.

Nevertheless, conviction in a sustained dollar rally is waning, as tariff fatigue and growth concerns begin to dampen sentiment. Traders remain cautious despite heightened trade uncertainty and a lack of policy clarity. For now, foreign exchange markets continue to be driven by trade headlines, with the dollar benefiting from renewed tariff speculation—yet the long-term outlook remains uncertain.

The US dollar index is likely to finish the week higher, a feat it has only managed once in the past seven weeks. The final obstacle to overcome is the US Personal Consumption Expenditures (PCE) report due today. The core figure could show a slowdown on a month-on-month basis; however, personal spending is expected to remain robust.

Euro Back on the Defensive

Fresh trade tensions are exerting pressure on the euro, as President Trump confirmed 25% tariffs on Canada and Mexico and hinted at new measures against China. While the EU has not been directly targeted, the risk of further escalation weighs on market sentiment, particularly given Trump’s ongoing criticism of European trade policies and VAT systems.

While the dollar initially strengthened following the tariff news, belief in sustained US dollar strength is diminishing, as the economic repercussions of higher trade barriers may outweigh short-term inflationary effects. For the euro, uncertainty continues to limit its upside, with EUR/USD hovering below $1.0400 as traders evaluate whether tariffs will remain a US-focused issue or broaden further.

Meanwhile, the European Central Bank (ECB) remains confident that monetary policy is still restrictive. However, debate over future rate cuts is intensifying, as reflected in the meeting minutes released yesterday. A 25-basis-point cut next week to 2.5% is widely expected, yet policymakers remain divided. Some express concerns about persistent services inflation and trade risks, while others fear weak growth and missing the 2% inflation target. The neutral rate remains a contentious issue, with policymakers questioning its reliability as a policy guide. While disinflation remains on track, wage growth and energy-related risks necessitate a cautious approach.

Risk-Sensitive or Safe-Haven Sterling?

As discussed in yesterday’s report, the pound’s high-yielding status is a double-edged sword. When market sentiment is positive, sterling tends to appreciate, but in deteriorating global risk conditions, it becomes more vulnerable. Consequently, the latest bout of tariff concerns has pushed GBP/USD down from $1.27 to $1.2570 within 24 hours. GBP/USD has erased its weekly gains and more, while several key moving averages continue to present resistance to the upside.

Although the pound has weakened against the US dollar, some analysts suggest that the FX market is viewing sterling as a tariff safe haven, based on confidence that the UK is less economically exposed to tariffs than major exporters such as the EU. This is evidenced by sterling’s appreciation against all G10 currencies this week except the US dollar and Swiss franc. Should GBP/EUR close the week above €1.21, it would mark the highest weekly closing price in nearly three years. However, a broader look at sterling’s performance shows that it appreciated against fewer than 50% of its global peers yesterday, contradicting the notion of sterling as a safe haven. Furthermore, sterling’s vulnerability to global risk aversion—due to its dependence on foreign capital inflows—would likely limit any haven appeal.

Nevertheless, the meeting between US President Donald Trump and UK Prime Minister Keir Starmer appeared constructive, with hopes of a trade deal boosting the likelihood of the UK avoiding tariffs. The UK is one of the few countries with a neutral trade relationship with the US in goods, making it unlikely that Trump would impose tariffs. However, even if the UK does evade direct tariffs, a global trade slowdown would still impact the UK economy, weighing on the pro-cyclical pound.

 

Sterling’s double-edged sword

Equity markets are faltering, and demand for safe-haven currencies is on the rise as investors navigate the shocks stemming from trade policy, geopolitics, and political uncertainty. The euro has retreated from one-month highs against the US dollar, though it remains 1% up year-to-date. Meanwhile, the pound has gained 2% against the dollar this month and is edging closer to the €1.21 level against the euro – a key resistance mark for the past eight years.

Equities unsettled, currencies steady
Uncertainty continues to mount regarding the timing and scale of tariffs to be introduced by the US administration following President Donald Trump’s cabinet meeting on Wednesday. Trump announced that the 25% tariffs on Mexico and Canada would take effect on 2 April, rather than the previously anticipated 4 March date. It remains unclear whether he was affording the countries additional time or simply confused the dates with another initiative. Either way, the inconsistencies have fuelled investor scepticism regarding his policy agenda.

Equity markets have been shaken by the ongoing uncertainty surrounding tariffs, with US stocks now erasing the initial post-election rally. However, currency markets appear more composed, with realised volatility in G10 FX declining recently. Beyond tariff concerns, fears over slowing US economic growth have intensified, prompting a risk-averse market sentiment. A combination of weaker growth and disinflationary pressures is likely to encourage further interest rate cuts by the Federal Reserve (Fed), with markets now pricing in two 25 basis point cuts this year, up from expectations of just one cut two weeks ago.

In the commodities sector, oil prices have fallen to multi-month lows, losing approximately 4% this month. Trump’s aggressive trade measures have exacerbated market anxiety at a time when oil traders were already concerned about tepid demand in China. Furthermore, optimism regarding a potential Russia-Ukraine peace deal has weighed on prices, as the lifting of Russian sanctions could boost global oil supply. As a result, commodity-linked currencies such as the Australian and Canadian dollars remain under pressure.

Tariff threats losing impact on the euro
The euro has pulled back from a one-month high of $1.0528, while Germany’s 10-year bond yield has dropped to 2.44%, nearing a one-week low, amid doubts over a swift increase in European defence spending and its financing through bond issuance. Meanwhile, economic data indicates that German consumer sentiment unexpectedly weakened heading into March.

President Trump has issued another round of tariff threats, but their impact on the euro has been relatively muted. EUR/USD continues to test the $1.05 level, yet the 100-day moving average positioned just above this threshold remains a strong resistance point. The euro dipped only 50 pips following Trump’s latest trade-related remarks, in which he stated his intention to impose a 25% tariff on European Union goods, without clarifying whether this would apply to all exports from the bloc or specific sectors.

Meanwhile, Germany’s incoming chancellor, Friedrich Merz, has ruled out an immediate reform of the country’s borrowing limits and suggested it was too soon to determine whether the outgoing parliament would approve a substantial increase in military expenditure. Investors will closely monitor trade and fiscal policy developments. On the macroeconomic front, Spanish inflation data due today could provide insights into the broader Eurozone inflation outlook ahead of next week’s European Central Bank (ECB) meeting. Markets anticipate another 25 basis point rate cut and a total of 82 basis points of ECB easing this year. The spread between US and German 10-year yields closed at 181 basis points on Wednesday, its narrowest since October, marking its most significant monthly contraction since May. This has helped support the euro’s modest rebound over the past month.

Sterling’s double-edged sword
Due to relatively higher interest rates in the UK compared to other G10 economies, the pound’s elevated carry status increases its sensitivity to equity market fluctuations. A modest recovery in equities helped sterling inch higher against the euro and US dollar on Wednesday, with GBP/EUR hovering just below the €1.20 level. Month-to-date, GBP/EUR has risen by over 1% but remains flat on the year, while GBP/USD has climbed over 2% and is nearing its highest level in two months.

However, sterling’s yield advantage is both a blessing and a curse. In risk-on environments, where investors are more willing to take on risk for greater returns, the pound typically appreciates. Conversely, in deteriorating global risk conditions, sterling becomes more vulnerable. This sensitivity is exacerbated by the UK’s worsening net international investment position and persistent current account deficit, which make the currency reliant on foreign capital inflows. Should equity markets experience a more substantial downturn, sterling is likely to suffer as well. Several warning signs are emerging, including bearish investor sentiment surveys and a surge in demand for hedging against a stock market correction.

One way to assess potential market volatility is through one-month implied-realised volatility spreads in the FX space. This measure indicates whether markets expect future volatility to surpass historical levels. Currently, traders are paying a premium for protection in safe-haven currencies such as the Japanese yen and Swiss franc, as they seek to hedge against possible shocks arising from trade policy, geopolitical tensions, and political uncertainty.

 

Please note:  The news and information contained on this site should not be interpreted as advice or as a solicitation to offer to convert any currency or as a recommendation to trade.

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