EUR/GBP Rises as Energy Worries Ease, Policy Shifts

Key Moments

Market Overview

Lee Hardman at MUFG reports that both the Euro (EUR) and the Pound (GBP) have completely reversed their early losses against the US Dollar (USD) that followed the outbreak of the Middle East conflict. According to Hardman, this rebound has been supported by a pullback in European energy prices and a stronger run of United Kingdom (UK) Gross Domestic Product (GDP) data.

He notes that recent hawkish commentary from the Bank of England (BoE) and the European Central Bank (ECB) has also bolstered both currencies. However, he points out that expectations for the timing of ECB policy tightening have shifted, with rate increases now seen as more likely in June or July, which could constrain additional Euro appreciation.

Reversal of Conflict-Driven Dollar Strength

Hardman highlights that the EUR and GBP have erased their conflict-related declines versus the USD.

“The euro and pound have now fully recovered all of their initial losses against the US dollar since the Middle East conflict.”

He explains that the move has been closely tied to changing safe-haven dynamics.

“The easing of safe haven demand triggered by the outbreak of the conflict has triggered a reversal of US dollar strength which has occurred much more quickly than we had been expecting.”

Energy Price Moves and Growth Data Support European Currencies

Softening energy prices in Europe have been another key driver of the improved tone toward EUR and GBP.

“The euro and pound have been supported as well by falling energy prices reflecting optimism that risks from energy supply disruption will ease if a lasting peace deal can be reached soon.”

On the macro side, Hardman points to upside surprises in UK activity data as an additional positive factor for the Pound.

“There was also some good news this morning from the UK where the latest monthly GDP report for February revealed that economy was growing much more strongly than expected heading into the energy price shock. Monthly GDP can be volatile but expanded strongly by 0.5%M/M in February which was the strongest monthly reading since last April.”

Policy Rhetoric from BoE, ECB and Fed

Hardman observes that recent central bank communication has favored EUR and GBP against the USD.

“At the same time, the euro and pound have derived support recently from hawkish comments from BoE and ECB officials indicating that they are preparing the ground for rate hikes in response to the energy price shock. In contrast, Fed officials have indicated they are more prepared to look through higher inflation in the near-term.”

Even so, he emphasizes that both European central banks have moderated their tone more recently.

“However, there has been some back tracking from the both the BoE and ECB suggesting that they want to take more time to assess the fallout from the energy price shock before hiking rates.”

ECB Outlook and Implications for the Euro

MUFG’s base case scenario on ECB policy remains unchanged in terms of the magnitude of tightening, but not its timing.

“We still expect the ECB to deliver 50bps of tightening but the timing of the first hike is likely delayed until June or July which could help dampen the euro’s upward momentum.”

Central Bank Drivers at a Glance